Case E5
Competition in the Pipeline?
Monopoly in the supply of gas
Some of the best examples of monopoly in the UK are the privatised utilities such as telecommunications, water and gas. The government, recognising the dangers of high prices and high profits under monopoly, has attempted to introduce competition in various parts of these industries. But in other parts there is no competition: they remain monopolies.
This mixture of competition and monopoly is well illustrated in the UK market for gas. There are three parts to this market: production; storage and transportation; and supply to customers. In production there is considerable competition, with several companies operating in the North Sea. In storage and transportation, however, there is a monopoly. National Grid Gas plc, originally called TransCo, owns the expensive gas pipelines and storage facilities. TransCo was formed in 1997 when British Gas (BG) was split into two parts. Following a merger with National Grid (owner of the electricity transmission network) Transco is now part of National Grid plc, the UK’s largest utility. The other part of the former British Gas is still called Bristish Gas (BG). BG is involved in supply to the customer. BG is part of Centrica, which also includes Dyno-Rod. The AA used to be owned by Centrica, but it was sold in July 2004 to private investment groups. In supply, the market has been gradually opened up to competition.
First, in 1990, large industrial consumers of gas were allowed to choose their suppliers. This choice was extended to small industrial consumers in 1992. By 1993, BG’s share of the industrial gas market had fallen to 41 per cent (from virtually 100 per cent in 1990). Gas competition has encouraged over 60 gas suppliers to join the market, and between 1995 and 2000 average prices to industrial and commercial users fell by 53 per cent (after taking inflation into account).
The market for domestic consumers in Great Britain was opened up to competition between 1996 and 1998. By 2003, there were 29 suppliers in this market. However, there has been considerable ‘consolidation’ in the market as suppliers have merged and by 2006 there were just six major competitors, although there were several other smaller ones, some operating in just certain areas. Nevertheless, Ofgem, the gas and electricity industry regulator, claims that there is still plenty of competitive pressure in the market, with over 40 per cent of customers having switched supplier. BG’s share of this market had fallen to around 60 per cent. Competition had reduced gas prices to consumers by over 20 per cent (after taking inflation and increased wholesale gas prices into account).
But how do gas suppliers compete, given that National Grid Gas has a monopoly of the pipelines? The answer is that National Grid Gas is required to allow companies to use its pipelines. It charges them a rent for this service. Producers’ supply is metered in; the gas used by companies supplying consumers is metered out. This enables the producing companies to charge the customer-supplying companies, and enables National Grid Gas to work out the amount of rent to charge. This accounts for 30 to 40 per cent of the average household bill, depending on the wholesale price of gas from the North Sea.
One reason for splitting BG was the worry that it would charge very high rents to its competitors, thereby giving itself an unfair advantage. In other words, it would use its monopoly in one part of the industry to prevent fair competition in another part.
One solution to this monopoly problem would be for the government to regulate the size of the rent and to insist that BG charged itself the same rent as its competitors. This was the policy in the early 1990s. Ofgas, the regulatory agency set up by the government at the time of privatisation in 1986, attempted to get BG to charge all customers, including itself, the same rent. After the split, National Grid Gas remains regulated (by Ofgem, the successor to Ofgas). This is to prevent it using its monopoly power to charge excessive rents or to discriminate unfairly between users of its pipelines.
What about regulation on the supply side? BG was initially regulated, but as competition was introduced, so regulation was removed. By 2002, all regulation in supply had disappeared.
With National Grid Gas’s rental charges firmly and fairly regulated, many of the new entrants into the gas supply industry have offered prices to customers some 10 to 20 per cent below that of BG. Not surprisingly, BG responded by reducing its own prices.
The situation seemed to have changed in 2005 and 2006, with large increases in the price of imported gas and gas from the North Sea. BG responded by raising its prices substantially, as did other suppliers. But BG was still concerned to remain competitive, as switching supplier is very easy nowadays with several agencies, such as The Energy Shop, uSwitch and UK Power, helping consumers to swtich.
Questions1.What possible advantages to the consumer could there be in (a) National Grid Gas having a monopoly over gas pipelines; (b) BG remaining a monopoly in the supply of gas to domestic households?
2.What are the arguments for and against Ofgem regulating the price of gas supplied to domestic households?