Ofgem confirms changes to the price cap methodology and frequency ahead of new rate to be announced later this month
Ofgem yesterday (Thursday 4 August 2022) confirmed that the energy price cap will be updated quarterly, rather than every six months, as it warned that customers face a very challenging winter ahead.
Yesterday’s change will go some way to provide the stability needed in the energy market, reducing the risk of further large-scale supplier failures which cause huge disruption and push up costs for consumers. It is not in anyone’s interests for more suppliers to fail and exit the market.
Although Britain only imports a small amount of Russian gas, as a result of Russia’s actions, the volatility in the global energy market experienced last winter has lasted much longer, with much higher prices for both gas and electricity than ever before.
The price cap, as set out in law in 2018, reflects what it costs to supply energy to our homes by setting a maximum suppliers can charge per unit of energy, and caps the level of profits an energy supplier can make to 1.9%, protecting millions of households. As a result of the market conditions, the price cap will have to increase to reflect increased costs and Ofgem will publish the next price cap level at the end of August.
While the price cap will have to rise, it continues to remove the risk of prices rising quickly for consumers when wholesale prices go up but falling slowly and less fully when they go down. When wholesale prices fall, these reductions will be passed on in full to customers through a lower price cap. This will happen more quickly with the quarterly price cap.
Ultimately energy has to be paid for in full and the price cap has to reflect the costs to the supplier of buying it wholesale and supplying it to homes, which makes up most of people’s bills. The price cap is also not a cap on the maximum bill a household can be charged, which is based on their usage.
Yesterday’s changes are being made so that prices reflect gas and electricity costs more quickly and accurately, so they don’t lag behind changes in the market. However, the market remains volatile and so the price cap methodology will be kept under review.
Jonathan Brearley, CEO of Ofgem, yesterday said:
“I know this situation is deeply worrying for many people. As a result of Russia’s actions, the volatility in the energy markets we experienced last winter has lasted much longer, with much higher prices than ever before. And that means the cost of supplying electricity and gas to homes has increased considerably.
“The trade-offs we need to make on behalf of consumers are extremely difficult and there are simply no easy answers right now. Today’s changes ensure the price cap does its job, making sure customers are only paying the real cost of their energy, but also, that it can adapt to the current volatile market.
“We will keep working closely with the Government, consumer groups and with energy companies on what further support can be provided to help with these higher prices.”
Yesterday’s update from Ofgem also means:
- Price cap levels will be updated every three months instead of every six months so that prices charged to bill-payers are a better reflection of current gas and electricity costs, allowing energy suppliers to better manage their risks, making for a more secure market helping to keep costs down for everyone. Paying a rate that is up to six months out of date in the current changeable market is no longer sustainable and could mean either consumers paying too much for months if wholesale prices have fallen or suppliers left unable to supply gas with the money they are allowed to charge if prices have risen
- We will have a shorter notice period between announcement and implementation of the new cap so that prices reflect gas and electricity costs more quickly and accurately which better reflects the reality of how quickly prices change now.
- We can ensure that the ‘backwardation’ costs incurred by suppliers can be recovered.**
Notes to Editors
*Numbers protected by price cap:
The number of customers protected by the price cap as of July 2022 is:
- New no. of customers on SVT / protected by the cap: around 24 million
- New no. of default (non PPM) customers: around 20 million
- New no. of default PPM customers: around 4 million
** Normally suppliers manage the difference between expensive energy in the winter and cheap energy in the summer on customers’ behalf, charging an average annual price. This winter’s price is so much higher than we have ever seen before, that suppliers paying a winter price but charging customers an annualised price will never get back the difference without this allowance.
Support on offer for consumers:
- Warm Homes Discount: Warm Home Discount Scheme: Overview - GOV.UK (www.gov.uk)
- Energy Bills Support Scheme: Energy Bills Support Scheme explainer - GOV.UK (www.gov.uk)
The price cap only allows for a 1.9% supplier profit margin point to prevent excess retail profits
This also comes in the same month where millions of households have received the first payment of the ‘energy bill support scheme’ from the government: £400 energy bills discount to support households this winter - GOV.UK (www.gov.uk)
- Price Cap – August 2022 decision on credit and PPM SMNCC allowances
- Price cap – notice to delay COVID-19 true-up decision and work on debt-related costs
- Outcome of 2022 review into whether conditions are in place for effective competition in domestic supply contracts
- Price Cap – Decision on possible wholesale cost adjustment
- Price cap – Decision on changes to the wholesale methodology
- Price cap – Final guidance on treatment of price indexation in future default tariff cap periods
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