Wednesday 8 May 2013

Utilities, Energy and the New Dirigisme

One upon a time, oil was the only energy-source that enjoyed anything approximating a free market.  Gas and electricity meant monopolies or, if investor-owned, a regulated rate of return, steady but low.

Then came liberalisation, and gas and power took off as traded commodities in competitive market structures.  The sector divided into merchant (unregulated) activities and 'true utility' (wires and pipes, where so-called natural monopolies prevailed).  The trade-off for residual monopoly remained a more-or-less regulated, low-ish rate of return.  Some companies had characteristics of both merchant and utility in their portfolio; others had cleaner business models and were one or the other, with the utilities being conventionally viewed as annuity streams or 'defensive' stocks.

Endless debate ensues as to whether this can all work out as well as the open-market theorists claim: FWIIW, I am squarely in that camp, and the development of a global gas industry is its best evidence.  However, just as things were working out nicely in electricity too, along came the baleful decarbonisation agenda, and with it an avalanche of regulatory meddling.  The EU's Emissions Trading Scheme was an attempt to execute some of the new policy goals via market mechanisms, but as a result of various entirely avoidable errors it hasn't really worked.  So meddling it is.

There is a school of thought that goes: bring back the CEGB ! Advocates of this include those with no memory, who have forgotten just how bloated and wasteful it was; and also those with long and fond memories, who recall exactly how bloated and wasteful it was, and they loved every minute of it.

However, governments no longer have the money for this malarkey and anyway, outright renationalisation is (currently) not allowed in the EU.  So we get dirigisme on an ever more detailed basis, as governments seek to determine exactly what new power plants (and other infrastructure) get built, and where, and by whom.

Which finally brings us round to the challenges for the likely builders of said new kit, and for those who might be considering investing in them.

The energy companies have, over a relatively few years, learned to play the game quite differently to the way they conducted themselves from the 1990s onwards.  Instead of taking a professional view on, for example, forward energy prices and spreads, and making their investment decisions accordingly, they have decided it's easier to demand subsidies, 'capacity payments' and various other featherbedding guarantees before they will invest in, well, pretty much anything these days.

Like governments, many of these companies are short of dosh, and so they demand high rates of guaranteed return.  Like monopolies, governments know exactly who is going to pay for all this in the end: it's us electricity-junkies that have nowhere else to go (until we surrender to death by hypothermia).  So they make the necessary arrangements, via a plethora of subsidies and schemes, for guaranteed high rates of return.

Guaranteed high rates of return - what's not to like ?  Shouldn't investors be flocking to join the game ?  There are several schools of thought, all wrestling with the following polar considerations:
  • People will always need electricity, the energy companies have governments over a barrel, and this isn't going to change any time soon; so back up the truck and enjoy it
  • This new 'system' is clearly dysfunctional, with regulatory risk abounding, not least because government is taking powers to make the 'utilities' their agents, not only of investment but also every facet of social policy which has an energy angle
It's even possible to synthesize these points and argue, (as does Liberum Capital) that in the medium term these guaranteed returns look so good for the energy companies ("at a perfectly feasible power price, SSE would be seeing 33% annual increases in EPS towards the end of this decade"), they are bound to get slammed mercilessly when the whole game comes unstuck.

I always reckon that those who live by the subsidy, die by the subsidy.  But maybe there is good money to be made in the meantime ... what do we all think ?


ND

18 comments:

Diogenes Sinope said...

Well take the proposed solar project in the new South Downs National Park. Described as

"Cambridge-based Vogt Solar UK is considering the installation of a 15MWp solar farm that would cover the site with more than 3,000 arrays (racks) supporting almost 76,500 photovaltaic panels"

- covering an area half the size of the neighbouring village. Not exactly a small footprint. But it will be there for 25 years - the length of the subsidy they get for generating it at 'x' and to a Poweco who sells it onto Joe Public/Joe Industrialist at '0.5x' or less.

No suggestion as to unsightly transmission lines; transmission losses; blighting the landscape; or the economic lunacy of it - cos it's Green and near Brighton. It's also close to the base of the current chairman of Solar Trade Association, Howard Johns, and that other solar lune, Greg Barker.

Blue Eyes said...

Great analysis. I am with you, ND, the boundary conditions should be set by taxation or pollution permits (I prefer taxation personally because it's simpler) and then the market can choose what to build. If that's nuclear then great but I doubt it will be.

Under genuine free market conditions (but with a carbon tax, say) my prediction would be that investment would go into lower carbon generation, prices would go up, consumers would invest a bit into energy efficiency, domestic demand would level off or fall and cheaper sources of the fossil fuels would be sought.

Sackerson said...

Whatever:

(1) ensures security of supply

(2) doesn't give the business and its future profits away to the French

Graeme said...

sackerson

the issue of profit-shifting can be addressed, to some extent, by taxation policy. Not necessarily corporation tax. Business rates is much more difficult to evade.

Nick Drew said...

the spammers have stayed away ! dense & lengthy small blue text is obviously the trick

Sackerson said...

Is blue a political dog-whistle? I did my A levels in violet ink, I think it made the examiners read more carefully.

Blue Eyes said...

"(2) doesn't give the business and its future profits away to the French"

Well that's easy, let's go back to 1970s-style exchange controls. That worked really well then so why would it not work really well now? We could keep the profits national of all industries, not just the energy generators. Cars, steel, that sort of stuff.

Sackerson said...

Every time I go across the severn Bridge (which my father and his Royal Engineer colleagues helped to construct), I reflect that I have to pay a bloody Frenchman to talk to a Welshman.

Britain with industries? You're getting dangerously radical, Blue Eyes.

Blue Eyes said...

Hi every one!!!!!

Sackerson, more cars are being produced in the UK than ever before. Presumably you preferred the Austin Allegros to the current baby Beemers and Toyotas. That is a matter of taste, of course.

This is, of course, a travesty and should be stopped forthwith!

Presumably I should be annoyed that I have to pay commercial providers to get to other countries too. Damn that evil train company that forces me to pay when I want to get to Calais!

Sackerson said...

Blue Eyes: that "produced"... it's like "Welsh" lamb, "product of the EU" etc. We don't make things in the sense that we used to make them. And no, I don't vote Labour nor ever have, so I hope you're not make a false assumption. Both sides of the political divide have presided over the sellout. The real divide, as has become painfully clear, is between the rulers ("I'm all right, Jack") and the ruled ("What can you do?")

Even Warren Buffett has noted as a matter of concern that the USA has crossed the point where its earnings from overseas investments are now less than the profits it exports, and that this trend will continue.

Is everybody here really so sanguine about our national economic decline?

CityUnslicker said...

they still came for you ND. Just as well...dense well written text is beyond my abilities!

Sackerson said...

That should be "making" - I'm not a Russian meerkat.

Nick Drew said...

gaah! well, I had 'em confused, they left it alone for 24 hours

SALISOFT said...

this is very interesting really::::: """" There is a school of thought that goes: bring back the CEGB ! Advocates of this include those with no memory, who have forgotten just how bloated and wasteful it was; and also those with long and fond memories, who recall exactly how bloated and wasteful it was, and they loved every minute of it."""""""""

assurance info said...

"""" Then came liberalisation, and gas and power took off as traded commodities in competitive market structures. The sector divided into merchant (unregulated) activities and 'true utility' (wires and pipes, where so-called natural monopolies prevailed). The trade-off for residual monopoly remained a more-or-less regulated, low-ish rate of return. Some companies had characteristics of both merchant and utility in their portfolio; others had cleaner business models and were one or the other, with the utilities being conventionally viewed as annuity streams or 'defensive' stocks.""""

Topographie Beni Mellal said...

as one of the great things that i get from this article is that """ governments no longer have the money for this malarkey and anyway, outright renationalisation is (currently) not allowed in the EU. So we get dirigisme on an ever more detailed basis, as governments seek to determine exactly what new power plants (and other infrastructure) get built, and where, and by whom."""

cours PDF said...

''""" The energy companies have, over a relatively few years, learned to play the game quite differently to the way they conducted themselves from the 1990s onwards. Instead of taking a professional view on, for example, forward energy prices and spreads, and making their investment decisions accordingly, they have decided it's easier to demand subsidies, 'capacity payments' and various other featherbedding guarantees before they will invest in, well, pretty much anything these days.""""

Agence communication said...

"" Then came liberalisation, and gas and power took off as traded commodities in competitive market structures. The sector divided into merchant (unregulated) activities and 'true utility' (wires and pipes, where so-called natural monopolies prevailed). The trade-off for residual monopoly remained a more-or-less regulated, low-ish rate of return. Some companies had characteristics of both merchant and utility in their portfolio; others had cleaner business models and were one or the other, with the utilities being conventionally viewed as annuity streams or 'defensive' stocks.""