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Is competition always a pre-requisite for efficiency?

Is competition always a pre-requisite for efficient and economic delivery, or is it sometimes just a blind dogma?

In the UK we have a mixed economy with both public and private services. Currently, most if not all retail outlets are in private hands as are most industrial and financial services. Alongside these we have a range of public services funded from taxation which are provided to us, arguably designed to enable us to live a decent and productive life, such as the National Health Service, education, highways, waste collection and disposal, plus personal care services.

Since the 1980s this convenient distinction between public and private has become blurred by a process of privatising public services. Today, for example we have the utility services of energy (gas and electricity) and water provided by private companies. In recognition that such services still have a significant economic and social impact, government has created public regulators to oversee the operation of these utility companies. These are essentially there to protect the ‘public interest’.

There has been a growing pressure since these privatisations to diminish the power of the regulators in favour of introducing more competition within the utility markets. The argument has been made that where competition can take root then the inherent trading practices will progressively make those services more efficient and the retail prices would fall as a result. Thus the regulators would not be needed.

Clearly where competition can be seen to flourish such as in food, clothes and cars, the consumer is faced with a huge range of options to consider. They stretch from cheap budget goods and services to luxury brands that spare little in the craftsmanship and quality of the materials used. Retailers also compete on price for the same branded goods in search for a customer. Therefore the consumer is able to exercise a rational choice, not just of the supplier but also on price and more importantly, for example, of the model of car, the colour and cut of a shirt, or the type of cereals to eat for breakfast.

Margaret Thatcher spoke of privatisation giving ‘power back to the people’ and freeing British enterprise to lead the world. Now in 2013, small shareholders have no influence, and EDF, one of the ‘big six’ UK energy suppliers, and owner of a large portfolio of our power stations, is a French state-owned company.

When the utility services were privatised, the previous publicly owned national utilities were broken up into a number of independent companies. In both the gas and electricity utilities, retail companies were set up to compete with each other for customers. The government deliberately engineered this arrangement in the belief that competition would work its magic and customers would benefit from cheaper energy and could choose which supplier they wanted largely based on price. (Currently the UK market is dominated by six energy providers). Government has also encouraged the creation of ‘swapping’ websites that make it easier for customers to seek out an apparently better deal and to swap from their existing supplier to a new one.

Most consumers today see this artificially created energy market as dysfunctional and not operating in the public interest. Competition has not worked and most consumers have little faith in the swapping process to help them find a cheaper energy provider. Why is this?

All UK gas suppliers use this same distribution network, and the wholesale price of gas is determined by global supply and demand. And the gas that comes out the pipe, is the same for all.

This is a classic case of the ’emperor has no clothes’, especially if you are an industry insider where your thoughts are ruled by what I would describe as some kind of internal fantasy. Take energy as an example. From the consumer’s point of view the product is exactly the same no matter who the supplier is. As there is only one distribution infrastructure, every supplier has to use it to deliver the energy to your home or business, and most suppliers also use the same energy generators to source their product. Similarly from the provider’s viewpoint, in addition to being dependent on the same infrastructure they also face the same cost pressures. The price of wholesale fuel is fixed by international mechanisms which impact on all domestic generators equally.

Therefore the only chance that a retail provider has in trying to compete for your custom is within the ‘cost to serve’ area of their budget. In the overall scheme of things that amounts to a small percentage (around 10%) of the eventual bill that we all pay. Moreover to save money on the ‘cost to serve’ usually means reducing the quality of service offered to the customer. This is achieved by various means of ‘cost dumping’, including the establishment of call centres, often overseas in developing nations like India, or domestically in regions of low pay like the north-west of England or Scotland.

Taking a dispassionate and logical approach to competition in the energy market leads you to the unavoidable conclusion that it just doesn’t make sense. Most consumers know this and it partly explains why they are unconvinced that the swapping regime is the answer. In the end there are only marginal differences in price and whichever company appears to be cheapest today may not be the cheapest tomorrow.

I have deliberately left any mention of the water industry until last. Unlike in energy, when water was privatised in 1989, the industry was split into over 20 independent local and regional monopolies. But as in energy, a national regulator was established to try to incentivise the water companies to ‘compete’ against each other in terms of their performance and to promote lower prices. Arguably the water regulator has been more effective than its energy counterpart but even so water prices have still consistently risen faster than prices generally. All domestic customers and most business users have no choice of water and sewerage supplier. A few large-scale industrial users can choose to switch suppliers but few have done so.

The same as for energy, the product, water, is the same for all customers, and the infrastructure in terms of pipes, treatment works and sewage disposal plants, are common to all customers. Yet the UK government is planning to introduce more competition into the water industry initially for business and commercial customers enabling them to choose their water retailer. However few believe that the domestic customers will be left out permanently. If competition has led to a dysfunctional energy market then I dread to think what will happen to the water industry.

Regrettably the pressures in favour of more competition in the water industry do not come from industry experts, but from city financial firms who are continually looking for ways and means to extract more profit from the utility industries. In the long-term this will not be good for consumers, and more to the point there is little evidence that most domestic customers actually want that sort of ‘competition’ for their water and waste services. It’s not surprising really. The public are not fools and they can see that once again this just doesn’t make any sense.

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