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Tuesday, 13 November 2012

Market manipulation: the consumer can't win

This quick blog is in response to some weak reporting about the alleged manipulation of the energy markets.

Someone interviewed on Radio 4's Today programme this morning claimed that, since the manipulation appears to have been an attempt to artificially lower the market price, consumers shouldn't have lost out.

But this is a gross over-simplification.

Markets are complex systems which take many input variables to arrive at what is meant to be the fair market price for a commodity like gas.

The price paid by the consumer for gas covers not just the wholesale cost of gas but also a mark-up added by the utility company to cover the cost of distribution and profit to shareholders.

Now, here's the important bit: profit.  When a market works, competition between rivals keeps profits in check.

Energy companies should in theory be trying to undercut each other on the retail price charged to consumers in order to maximise market share, whilst minimising the price paid on the wholesale market to maximise their profit.

If a small number of utility traders learn how to rig the wholesale market in order to lower the price paid for gas; then traders who, for whatever reason, won't or can't rig the market will always end up paying more for their gas.

So the overall effect of manipulation to artificially lower prices may well be to reduce competition in the retail sector.

And because there's less competition it might be possible to increase the mark-up without losing customers.

So the overall effect of rigging the market in this way may be consumers pay more for gas whilst utility companies pay less - the winners: bumper bonuses for traders and increased dividends for shareholder.
UK wholesale vs retail gas price 2007-2012
Source: Consumer Focus 
UK wholesale vs retail electricity price 2007-2012
Source: Consumer Focus 
There probably isn't enough data to draw conclusions from the above graphs but it certainly looks like there is an upward trend in the retail price that is not reflected in the wholesale price.

Of course the energy companies will moan about setting money aside for infrastructure upgrades and future investment, but if the market was competitive there should also be pressure on these companies to find more efficient ways of delivering energy.

UPDATE 15-11-2012: Energy company profits up 40% - an indicator of a collapse in market competitiveness?

@JamesFirth

2 comments:

  1. What about renewable obligations and other government imposed costs to cover all the warble gloaming stuff. That's probably a reason why the retail price is staying high rather than following the wholesale price.

    ReplyDelete
    Replies
    1. I'm not sure that this has any significant impact compared to the cost of generating and transporting energy, pipeline maintenance, etc. Also if the energy company PR firms are pushing this line I'm tempted to treat it with even more scepticism, in much the same way oil companies claim petrol station forecourts practically lose them money...

      Also profits are up 40% at SSE - not a sign the retail hike is being re-invested. source: Guardian

      Delete

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