Why the energy price cap is broken – it doesn't reflect the price people pay today (video)…
On 1 January 2019, a cap was introduced on the prices that energy firms could charge on their standard (ie, default) tariffs.
The aim was to cut costs for those people who are reluctant to switch. Yet the way it has been implemented – especially the time lag, which means the price cap is out of sync with wholesale prices – hasn't worked out well. In fact it may well be damaging, by discouraging people from switching at exactly the moment they're most likely to do it – thus meaning they're overpaying by £100s.
Of course, I've written before about the difficulties of comparing when there's a price cap. I've always explained that I think politicians need to make their mind up and either regulate all prices or let the market do its job – halfway houses are a problem. But the timing issue is a new one. So I've bashed out a very quick video to try to explain. Here you go...
Here's the transcript...
"Hi. I want to talk to you about the energy price cap, that I believe is perverting the marketplace in a way that is detrimental to most consumers and you need to understand it. I'm doing this by video because I think writing it would make it even more complicated. So, hopefully, I'm gonna be able to explain it to you now.
"The price cap came into place on 1st January this year, set at £1,137. Now, that's actually for somebody on typical usage. If you use more, your price cap's higher. If you use less, your price cap's lower. That initial price cap lasted for only three months. On 1st April it rocketed up to £1,254, which is actually more than the big six standard providers – because it's their standard tariffs that have their prices capped – were charging before the first price cap came into place.
"Now, the 1st April price cap will last for a further six months. So, what's the problem here? Well, it's all higgledy-piggledy and jumbled up. You see, that first price cap, the one which started on 1st January, was dictated based on prices in the wholesale energy market – that's what gas and electricity companies pay – from February to October. Now, the February to October period was particularly cheap, which is why the price cap was at a very low rate, £1,137.
"The problem is, after October, prices started to rise very rapidly. So in that first three months of the price cap, what we had was, the price cap was artificially low and the cheapest deals were getting more expensive. So you had a very narrow gap between the price cap rate – and I say it's a price rate, but the truth is all the big six companies don't see it as a price cap, they see it as regulated pricing. They just charge you what the price cap is.
"Anyway, between the price cap rate and the cheapest on the market, there wasn't much of a gap, which means people weren't incentivised to switch in that January to April period, one of normally the busiest switching periods of the year.
"Then, at the beginning of April, the price cap rocketed. So, standard prices went up and they went up because, as I explained before, prices had been rising in that October, November, December period really rapidly. At the same time, wholesale prices started to drop, meaning the cheapest prices on the market got cheaper. So now, whereas earlier the differential between the cheapest prices and the price cap was about a £150, now it's £350.
"This would incentivise people to switch. But of course, the April period in which this came in, people have already stopped thinking about energy switching. People switch in the winter. So, in the crucial period, when people would've switched, we had a very narrow gap, disincentivising them from switching, giving them a false sense of security that their price cap price would be cheap for the whole year, even though it was always gonna rocket when it came to the April, and now that we have a big gap, people's attentions are not on the energy price cap.
"This is going to continue. My guess is in the next price cap, the price will come down again, but the wholesale prices will have probably risen again, so we get this very weird shape that doesn't work for the market. The gap between the wholesale prices that we're basing the price cap on and when the price cap starts is simply too long and isn't working.
"Now, I need to put this in context. I was never a supporter of the price cap in the first place. I always said it would have perverse effects on the market and this is just one of the ways that it does that. And I think part of the problem here is politicians simply don't understand the energy market. They feel they have to do something to bring prices down, but they don't have a coherent philosophy.
"There are two ways to deal with energy. One, you say 'we want competition'. If you want competition, you have to have big differentials between the cheapest and the most expensive. You have to accept, some people are gonna pay more than others. If you don't want competition, instead of trying to tweak the nipples of the system, in the way that it doesn't work, then just regulate prices and say this is what you have to charge for energy.
"Either of those two models can work. But when you try and have a hybrid, they fight against each other. By putting a price cap in, we give people a false sense of security that they're on a cheap tariff when they're not, cause you're on the price cap tariff, and they don't switch as much as they should do.
"Now if I were in charge of the energy market, what I would probably do is accept competition and then say 'what we need to address is, who are the acceptable victims of competition and who are the unacceptable victims of competition?' If I, of an internet-using, savvy, web-using chap, decide that I can't be arsed to switch energy, well then that's my fault, I'm an acceptable victim.
"But the fact is, there are struggling, 90-year-old grandmas and grandpas out there who don't use the internet, who pay more to boil a kettle than I do. Now that for me is an unacceptable victim. So we need to look at who we need to help, have a selective price cap and encourage the others to switch, or frankly, just regulate pricing. But the way we're doing it at the moment simply isn't working. Unfortunately, there certainly isn't any legislative space, with Brexit going on, for people to take a look at this.
"But my big warning to you out there, if you're savvy with energy, you'll probably get it. If you're not, do not think, because you are on a price cap tariff, that's a good deal. They say it's a fair deal, but a fair deal ain't a good deal. You could still be saving way, way more than 20 per cent on your energy bills by switching. There are good customer service, reliable providers out there – not just the small tiddlers that we're not so sure about – who will charge you far, far less. And yes, you do have to do it each year. It is a regular job to keep it cheap. But don't rely on the price cap. It isn't fit for purpose."