Cover of Watt's Wrong?

Watt's Wrong?

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A comprehensive guide to what's wrong with Britain's electricity and energy system

by Ben Watts

Chapter 11: Price Cap - The Sticking Plaster Solution

Retail electricity prices were fully liberalised in the year 1999. In the period since privatisation in the year 1990, they had been regulated because there wasn't yet competition. From then until 2018, the market was in charge. However, in the years after 2010, higher energy bills became a more regular item on the political agenda. Eventually, the Labour party, then under the leadership of Ed Miliband (previously and once again energy secretary) pledged to introduce a price cap in the 2015 general election.

Though the Labour lost the 2015 election to the Conservatives, the price cap was a popular proposal and high energy issues didn't dissipate as an issue. In the following 3 years, average energy bills didn't rise for engaged consumers that actively compared and switched suppliers. However active residential customers were only about 40% of the market, or 10 million out of about 25 million homes. For the remaining 15 million (or 60% of homes) who weren't actively a tariff, prices were significantly higher. There are a number of conclusions Government could have made from this. Clearly, if you are hoping for retail competition to be the main lever to keep energy prices competitive, if a majority of households aren't active in the market, something is inadequate or missing. There were some efforts to boost the volume of switching, though the advent of price comparison sites since year x had dramatically cut the ???? SOMETHING is missing ????

Political concern therefore continued to grow. Eventually, in 2018 a price cap was introduced. Customers remain free to choose a tariff from different suppliers. However, if a customer at any point hasn't actively agreed a tariff, suppliers are obliged to enroll residential customers onto a default, price-capped tariff.

The price cap levels are published quarterly by the regulator. The methodology is extensively documented and is recommended for anyone trying to understand the composition of home energy bills. As of 2024-25, a typical home electricity bill of £869 breaks down as follows:

Now because of the way the price-cap assumes forward hedging of about 12 months, when wholesale energy prices started rising very dramatically in 2021-2, suppliers found themselves in a difficult situation. This meant that suppliers were no longer able to offer competitive tariffs to active customers looking to switch in the market. However, under the price-cap regulation, suppliers continued to be required to offer a price-cap tariff to all customers at rates that weren't keeping pace with the spike in wholesale costs. For the first time since competition, it was no longer advantageous for householders to shop around for energy tariffs, but instead accept the default, price-cap tariff from their supplier. This advice was quickly disseminated by consumer groups, influencers like Martin Lewis and the media. Suppliers started withdrawing their fixed tariffs. Then around 30 suppliers went bust - including Bulb Energy, which required a £2.2 billion taxpayer bailout before being sold to Octopus Energy.

Credit is due to regulatory and industry the handling of the 30 defunct suppliers. In each case, customers were allocated to a new supplier with no interruption to their energy supply. However, the retail energy market ended up with far fewer competitors; ironically the price cap had inadvertently destroyed the very competition it was meant to encourage.

Eventually, by September 2022, with wholesale energy prices continuing to rise, the Government intervened much further in the energy market and started directly subsidising home energy bills. This decision was about the only lasting policy decision enacted by the short-lived Truss administration. Given the economically liberal image projected by Truss, the choice and extent of the subsidies proposed is somewhat ironic. Initial estimates suggested costs of £60-140 billion, but the actual cost turned out to be around £40 billion total - still roughly £1,400 per household. This included £21 billion for the Energy Price Guarantee itself (keeping bills at £2,500), £12 billion for the universal £400 household rebate, and £5.5 billion for business support.

However, the energy price guarantee, as it was known, was not a cap on the bills paid by households. Instead, it was a direct subsidy paid by Government to energy suppliers - essentially the state picking up the difference between wholesale costs and the £2,500 household target. This represented a complete abandonment of market pricing, with taxpayers subsidising energy consumption regardless of usage levels or household income. The irony was complete: a supposedly free-market Conservative government had nationalised household energy costs in all but name.

Remarkably, this £40 billion commitment was made without proper parliamentary scrutiny or Treasury costings. The EPG was announced on 8 September 2022 - the day before the Queen's death - which suspended parliamentary business for ten days of national mourning. When Parliament resumed, the mini-budget chaos dominated proceedings. The Energy Prices Bill wasn't even introduced until 12 October (over a month after the policy began), received just a few hours of debate, and was fast-tracked to Royal Assent within two weeks. No Office for Budget Responsibility forecast was sought, no cost-benefit analysis was conducted, and no proper parliamentary committee scrutiny occurred. The largest peacetime fiscal intervention in British history was implemented with less parliamentary oversight than a typical local planning application.

To put the magnitude of the Energy Price Guarantee into context, £40 billion is roughly equivalent to the entire annual education budget for England, or about half the annual defence budget. During Covid, the Government spent £69 billion on furlough support over two years. The EPG was a vast programme, handing a significant payment in kind to almost every household in the country.

However, the scheme was deeply regressive. Although the £400 household rebate was uniform, the Energy Price Guarantee itself was paid per unit of energy consumed, meaning the largest subsidies went to those with the biggest and worst insulated homes. While a typical household might have received £800-1,000 in EPG support, a wealthy family in a large, poorly insulated country house could easily have received £3,000-5,000 in taxpayer support. The owner of a 10-bedroom mansion with an annual energy bill that would have been £8,000 without the cap received roughly £5,500 in government subsidy - ten times more than a pensioner in a well-insulated flat. The policy essentially socialised the heating costs of the wealthy while providing minimal help to those who needed it most at a time that widespread inflation hit every aspect of household expenditure.

The scheme was also regressive across generations. To understand the scale of this inequality: the wealthiest 10% of UK households (predominantly older homeowners) hold 43% of all wealth, while the bottom 50% (disproportionately younger people) hold just 9%. The richest 1% possess more wealth than the bottom 50% combined. Meanwhile, older households received the biggest energy subsidies while paying minimal tax to fund them (particularly pensioners), while younger people - more likely to live in small flats or shared accommodation - received little direct benefit but will spend decades paying higher taxes to service the additional £40 billion of national debt. In effect, young renters in London bedsits subsidised the heating bills of older homeowners in large detached houses, then got handed the bill to pay it back over the next 30 years.

More worryingly from the perspective of basic economics, the energy price guarantee did nothing to solve the underlying problem causing the energy price shock that Europe faced. Following a severe restriction on the supply of gas from Russia, the logical policy response was to reduce demand for gas to force down the market price. These could have included:

  1. Public information campaigns - informing the general public of the shortage of natural gas, the reasons for it, and the actions they could take, reducing heating and hotwater use, that could lead to an improvement.

  2. Maximum legal temperatures for heating - France imposed 19°C limits in public buildings and encouraged the same in private homes, while Germany set 19°C for offices and 16°C for corridors and lobbies.

  3. Reduced working hours - Moving to 3-4 day working weeks to cut commercial energy demand, or encouraging remote working to reduce both office heating and commuting. That said, remote working in winter in the UK, where most homes are heated with gas could feasibly have increased demand for gas.

  4. Temporary cohabitation incentives - Tax breaks or payments encouraging families to move in with friends or relatives during extreme cold snaps, reducing the number of homes needing heating.

  5. Public building closures - Closing non-essential public buildings (libraries, community centres) during peak demand periods and consolidating services.

  6. Industrial demand management - Paying energy-intensive industries to reduce production during peak hours, rather than subsidising their consumption.

Instead, the UK chose to subsidise consumption rather than reduce it - the exact opposite of what basic economics would suggest during a supply shortage.

As it turned out, the energy price shock was over more quickly than initially expected. Wholesale gas prices began falling in early 2023 as European storage filled up, alternative LNG suppliers were found, and a mild winter reduced demand. By July 2023, the Government announced the end of the Energy Price Guarantee, reverting to the normal Ofgem price cap. The crisis that supposedly justified £40 billion of taxpayer spending had largely resolved itself through normal market mechanisms - exactly what would have happened faster and cheaper if demand had been reduced rather than subsidised.

The price cap, originally introduced as a temporary measure to protect vulnerable customers from supplier exploitation, has instead evolved into a permanent feature of the energy market. What began as a "sticking plaster" solution to a competition problem had become the foundation for the largest peacetime fiscal intervention in British history. Rather than fixing the underlying issues with Britain's energy system, the price cap had simply made them more expensive for taxpayers to ignore.

More worryingly, the Energy Price Guarantee has created a dangerous precedent. Having bailed out energy consumers once, the electorate now expects the same treatment during any future price spike. Psychologically, voters believe it is the Government's responsibility to ensure energy prices remain affordable, regardless of the cost to future taxpayers. This creates classic moral hazard - when people expect to be rescued from the consequences of their choices, they make riskier decisions.

The bailout has reduced incentives for both households and businesses to invest in energy resilience:

  1. Household energy efficiency - Why spend £10,000 on insulation, heat pumps, or solar panels when the Government will subsidise your gas heating bills instead? The EPG removed the price signal that would drive investment in home energy independence.

  2. Industrial energy efficiency - Why should factories invest in energy-saving equipment when they can expect taxpayer support during price crises? Heavy industry now has less incentive to reduce consumption or switch to alternative energy sources.

  3. Energy market resilience - Why should suppliers hedge their wholesale purchases properly when they know the Government will intervene to prevent customer bankruptcies? The EPG has made the entire energy supply chain more fragile by removing market discipline.

The Energy Price Guarantee essentially nationalized energy price risk while keeping energy supply private - the worst of both worlds. Consumers get the illusion of market choice while taxpayers bear the cost of market failures. This moral hazard ensures that Britain will be even less prepared for the next energy shock, making future bailouts both more likely and more expensive.