Over the past few months a series of spectacular nea-bankruptcies and production hiccups has highlighted the dire state of the electricity industry twelve years after privatisation.
It began last May with the announcement by BE (British Energy, the world's largest private nuclear power generator) that it had made £493m losses over the previous year in addition to having built up a pension fund deficit worth £375m. BE accounts for 20 to 25% of Britain's electricity production. A bankruptcy would have threatened electricity supply throughout the country. Understandably, therefore, this announcement sent ripples through government circles. Feverish negotiations took place over the summer to find a formula which would allow the company to cut its losses without resorting to public funding.
However, four months and four reactor shutdowns later, on 5 September, BE warned that it would slide into liquidation without a government bail-out. On that day trading of BE shares was suspended after a 30% fall. The energy minister, Brian Wilson, rushed to declare first that he would not allow BE to play a Railtrack on him and then, almost immediately, that the government would open a £410m credit line to ease off "immediate pressure" on the company. However, when trading of BE shares resumed on 9 September, their price fell by another 65% to a mere 22p - compared to their £7 peak value. Since then the government's credit line to BE has been increased to £650m while speculation has been mounting as to the nature of the disguised state bail-out Blair is going to produce this time round.
As it turned out, however, British Energy was not an isolated case. On 16 September, it was announced that the British subsidiary of the US-based company AES, which owns, among other facilities, the Drax coal power plant near Selby in Yorkshire, the biggest in Europe, had temporarily defaulted on its £1.3bn debt. It soon emerged that the AES default was one in a chain of payment defaults, which involved TXU-UK (a US-owned electricity company, which supplies electricity to 5.5m people and is one of AES's main customers) and UK Coal (which provides fuel to AES- Drax). By that time TXU-UK had already shut down two of its power plants and the price of its shares had plummeted by 50% as a result.
But there was more to come. On 9 October, Powergen, the only remaining "historical" privatised generator, now owned by the German giant EON, announced that it was mothballing a quarter of its generating capacity. This time the reason was not threatening bankruptcy, since Powergen ended up buying TXU-UK for £1.9bn a few days later. No, Powergen's argument was simply that these three power stations were just not worth running at the current level of electricity wholesale prices. By then a total of seven non-nuclear power plants had been mothballed and four nuclear reactors had been shut down, thereby putting out of commission around 10% of Britain's generating capacity.
By the end of October, the casualty list seemed to be limited to these cases, at least as far as "commercial confidentiality" allows the general public to know. However the state-owned British Nuclear Fuels, should also be added to the list, even though it may seem to be in a slightly different league. Indeed BNFL quietly went bust last July and its liabilities and British assets are to be passed on to a new quango, the Liabilities Management Authority. Meanwhile BNFL will retain its US-based assets and will be paid by this quango to carry on operating the nuclear power plants which it used to own. This represents a neat bail-out engineered by Blair to get the taxpayer to foot the bill while preparing the profitable part of BNFL for privatisation!
As it is, this list already involves some of the biggest players in the electricity industry. And as a result, commentators began to talk about a potential threat to electricity supply for a significant section of the population, which would be for the first time since the power shortages of the early 1960s. A lot of legitimate questions have been raised about the impact of privatisation on the electricity industry, the role played by the "electricity market" created in the process and the greed of the capitalists who have been making a killing out of electricity provision over the past decade.
From state monopoly to private chaos
It should be first recalled that the centralisation of electricity planning goes back to the 1930s. At the time, a Central Electricity Board was set up in order to make up for the failure or inability of private and municipal electricity companies to invest in new facilities on any significant scale. The CEB proceeded to set up a national high-voltage transmission network, the National Grid. It also channelled public funds into building huge power stations to replace the large number of ageing small ones. So that, by the end of WWII, the total number of power stations had decreased from over 400 to 345 while electricity production had increased considerably and distribution now reached every part of the country, including the most remote.
The 1947 Act turned electricity into a state monopoly and nationalised at great cost those parts of the industry which were still privately-owned. By the mid-1950s, when the industry was given its final form by the Tories, England and Wales were covered by one single power generating entity, the CEGB, which was responsible for maintaining existing power plants as well as planning and building new ones. It supplied electricity directly to a handful of large companies, such as British Rail and British Steel, and to twelve area Electricity Boards which were responsible for supplying users, connecting them to the network, maintaining their connections and dealing with their bills. Scotland had a different structure, with two Area Boards which were also in charge of generation. Finally the National Grid's transmission network allowed the pooling of all electricity production across Britain.
Significantly, even in these early days, more than three decades before Thatcher's privatisation, the then Tory government managed to introduce a "market" element into the operation of the system. Indeed the Electricity Boards were deemed to "buy" electricity from the CEGB and "sell" it, together with a range of services, to domestic and business users with a statutory duty to balance their books. Obviously those who had made the rules already had in mind the privatisation of the Electricity Boards at some point. However the need for a national state monopoly for power generation and planning was never seriously questioned by anyone for decades.
The benefits of this organisation are obvious, since it built most of today's modern electricity network, thanks to the capacity of the state to invest and plan over a long period - something that private companies seeking quick profits are, by definition, incapable of doing. Whether it did it in the best possible and most efficient way is another question, of course. There was massive wastage, in the form of over-capacity and hugely expensive choices, particularly the turn to nuclear energy. But this wastage was largely the result of lobbying by private companies seeking government construction contracts. Ironically, most of the wasted money went towards lining the pockets of the same companies which, by the 1980s, demanded the privatisation of electricity on the grounds that state ownership was so "inefficient"!
When the privatisation process eventually began, in 1990, some loopholes had already been created in the state monopoly. But the state still controlled 95% of electricity production in the country. To cut a long and complicated story short, the privatisation process was carried out in two stages.
During the first stage, under John Major's government, the CEGB was split into two privatised entities - National Power (now called Innogy, which is owned by the German giant RWE) and Powergen. Each area Electricity Board was sold as a separate entity, with the additional right to generate power. As to National Grid, initially it was owned jointly by the privatised Electricity Boards, until it was floated on the stock market in 1995, thereby becoming an independent company in its own right.
The second stage began in 1996, but it only gained real momentum under Blair, between 1998 and 2001. While the privatised companies had to operate within a relatively strict framework during the first phase, this second stage involved wholesale deregulation under the pretext of "opening up competition for consumers' benefit." Indeed, Blair's scheme simply amounted to creating a free-for-all in the industry under the watchful eyes of an "independent" regulator, now known as Ofgem. Significantly, although this regulator has used its extensive powers repeatedly to enforce "competition" - i.e. the best possible market conditions for the biggest players - it has still to be seen to pull its weight against the extortionate practices used by some companies against consumers.
Blair's deregulation split the industry into three tiers - generators, suppliers and distributors. Distributors (so far) have a statutory duty to connect consumers to the National Grid and to maintain their connections. They are not fully deregulated since they still have a geographical monopoly within the boundaries of each of the 12 old Electricity Board areas. On the other hand, all the ancillary services that used to be carried out by Electricity Boards, such as metering, are totally deregulated. Suppliers buy electricity from generators and sell it to consumers, using the services of distributors. Suppliers' activities are entirely open to competition and are deregulated just as is the case for generators. Consumers can buy their electricity from any supplier but suppliers have no statutory duty to supply anyone. However they can buy electricity from whichever generator they choose, provided it is prepared to sell. Companies can combine two of more of these three activities, so long as they create separate structures for each.
The result of all this is a maze of some 77 main companies, with as many smaller ancillary ones, not to mention the army of subcontractors they use. These companies are tied by a web of commercial contracts, some long-term (which can span over several years), but most short-term (with a lifespan which can be as short as 30 minutes). And as there is no referee to arbitrate between them, disagreement can only be settled in lengthy court cases. So that while large numbers of vital jobs in facility and network maintenance have been cut as a result of privatisation, it has provided the legal profession with an enormous new source of work and income while producing a huge mountain of paperwork - so much for "cutting red-tape"!
Given all this, what is surprising is not so much that the system is being disrupted, but rather that it operates at all. And this can only be credited to the state-built network onto which this market chaos was grafted in 1990. So far, this basic infrastructure has resisted the greed of the electricity sharks. But for how long?
The Scramble for Electricity
Electricity privatisation signalled a scramble among capitalists to take a share of the industry - predictably so, since, after all, it was estimated that the industry had been sold for around 20% to 25% of its actual replacement cost value! And, of course, this was a market with a secure customer base since neither businesses nor the 26m or so households could do without electricity. In every respect it was an ideal target for profiteering.
While the privatisation process itself produced "only" 17 separate main private companies, the successive moves towards deregulation and the opening up of most activities to competition provided the new companies with an incentive to break up their businesses and sell them bit by bit to the highest bidders in order to maximise the profit they could make. These were the main factors leading to the mushrooming of so many rival companies and the present atomisation of the industry.
Indeed, the 1990s saw a stampede for a share in the electricity industry which was in some ways similar to the craze for high- tech telecoms over the same period. It fed both on the attempts made by the original owners to make a quick buck out of their initial investment and the desire of companies from outside the industry to get a foothold in it. As there were more buyers than sellers, share prices hit the roof, thereby attracting the interest of another kind of player - financial companies - which had no interest in electricity and bought electricity companies for the sole purpose of selling them some time later at a much higher price - and this contributed to pushing share prices even higher.
So, for instance, two of the first "mega-bids" for electricity companies were made by Trafalgar House (unsuccessfully) and the Hanson Group (successfully), in other words two predatory conglomerates which specialised in asset- stripping. Among those who wanted to get a foothold in the market were, in particular, a number of privatised utilities - such as water companies and British Gas.
In addition there was a massive inflow of foreign capital. With the exception of one power plant sold to the American group AES earlier, in 1992, it only began to materialise by mid-1995. In March 1995, Blair, now leader of the Labour Party, had formally endorsed electricity privatisation enthusiastically, thereby convincing analysts that, whoever won the 1997 election, there would be no reversal of privatisation, nor any straightjacket imposed on the privatised companies. Besides, for the big American electricity utilities, Britain's large electricity market was a lot more attractive than the other markets in which they could exercise their predatory appetite at the time - which were mostly poor or semi-developed countries like Brazil, a handful of African countries, India, Pakistan, etc... So the big US utilities went on a shopping spree in the British electricity industry and, from 1998, they were followed by Europe's heavyweights, such as EDF, the French state-owned monopoly, and the two German giants EON and RWE.
The result of this massive flow of capital was a frantic battle between companies which has been going on continuously for the past seven years and is still raging. However, this did not result in improving production reliability or services to customers as had been predicted by privatisation pundits. On the contrary, the companies cut costs to the bare bone in order to maximise profits so as to expand their market share in Britain by taking over lesser rivals, but above all to buy electricity facilities and companies abroad - mostly in the former Commonwealth, North America and Central Europe.
But although the battle is still raging, the stock market slump has affected electricity companies in much the same way as it has affected the telecoms and electronics industries. Share prices have gone down drastically and many of these companies, particularly among the big players, find themselves left with enormous debts from their past shopping sprees, assets that are worth only a fraction of what they paid for them and large interest bills to pay. Due to their much reduced capitalisation, they are confronted with banks which are increasingly reluctant to lend them more money. And this goes a long way towards explaining the problems faced by companies like TXU-UK and British Energy.
In the case of BE, as well as in the case of the state-owned BNFL (British Nuclear Fuels Limited) there is, in addition, the specific problem linked to nuclear power generation and the additional long-term cost of decommissioning nuclear plants when they are closed down. At the time of privatisation, BNFL remained in the public sector with six old Magnox reactors, dating back to the 1950s, together with the Sellafield reprocessing plant. BE, on the other hand, took over the remaining eight more recent plants. This meant that BNFL would have to face decommissioning costs earlier than BE, but both had to start making provisions for this. However, just like the other electricity companies, both BE and BNFL used their profits to go on a shopping spree abroad. So BNFL bought the US nuclear company Westinghouse and BE bought a number of nuclear plants in the US and Canada. As a result the decommissioning provisions which both companies should have built up are totally inadequate and in any case many times smaller than their debt.
Electric City: wholesale speculation
Nevertheless, a number of generating companies are blaming their present difficulties on the 40% drop of wholesale electricity prices since 1998. However, for the biggest companies at least, this is largely a red-herring in so far as they sell a large part of the electricity they produce to themselves - i.e. to their own supplier arm. In any case, it is ironical that capitalists who argued for privatisation twelve years ago on the grounds that the introduction of competition would reduce electricity prices, should now complain about this reduction and excessive competition. But then of course these are people who always want to have their cake and eat it!
This being said, it is true that the competition which was introduced artificially through the privatisation process has led to various damaging distortions in the operation of the electricity network itself. This is due to the fact that once the electricity system was broken up into many companies selling and buying electricity, a mechanism had to be created in order to allow these companies to trade in a competitive market - i.e. to allow suppliers who need electricity to buy it from a power plant which is able to produce it at the best price, wherever it may be located.
In the days of the state monopoly, the National Grid used to operate a centralised system which made it possible to reconcile supply and demand and to tune the level of electricity production in each plant according to needs.
After privatisation, however, a computerised electricity market was set up in 1990 to allow competitive trade. The Pool, as it was called, operated much like existing commodity markets dealing with metals, sugar and other commodities. Except that what complicates matters in the case of electricity is that it cannot be stored. Once produced it has to be sold and once bought it must be consumed, otherwise it is wasted. So this market was rather more complex: it involved trading based on estimated needs 24 hours in advance of use, based on a commonly agreed price, and last minute trading half-an-hour before use to make up for inadequate estimates, where prices were designed to penalise the buyers who underestimated their needs and the suppliers who underestimated their ability to produce.
The consequence of this system - and it was partly designed for that - was to provide an incentive for generating companies to over-produce. It was hoped that as a result, not only would there be no power shortages, but in addition generators would be more willing to invest in building new power plants. And it worked, since a number of new gas-powered power plants were built as a result. However this new production capacity was not offset by the closure of obsolete plants, resulting in an over-capacity which is estimated at 22% by Ofgem today. Besides, the design of the Pool meant that wholesale prices remained at a relatively high level.
So, when Blair came to power, it was decided to replace the Pool with another, yet more sophisticated and fully-deregulated system, called NETA (New Electricity Trading Arrangements) which came into operation in March 2001. It provides the electricity market with all the features of the financial markets, including the possibility of speculating, by gambling on electricity prices years, weeks or hours in advance of delivery. It includes four "official" trading markets and can accommodate parallel privately-run internet-based markets (one of them was set up by Enron, which probably says it all about the speculative nature of this activity). The turnover of just one of the "official" markets involves 400,000 contracts a month representing the equivalent of more than twice Britain's total consumption over the same period. And yet most contracts are in fact traded outside these markets directly between buyers and sellers, or through brokers. In addition, a new category of "electricity companies" appeared with NETA - companies which neither produce electricity nor sell it to users, but only trade on NETA's markets to make profits out of speculation.
A recent academic study on NETA put all this in a nutshell: "In the pre-privatisation electricity industry in Britain, the telephones in the main company, the CEGB, were fitted with an engineer's button', which an engineer could use to give his calls priority over all other calls. In the post-privatisation industry, if there had been an over-ride button, it would be for commodity traders."
It is this mind-boggling system, together with the existing ove-capacity inherited from the pool, which is responsible, according to commentators, for the 40% fall of wholesale prices since 1998. However, others point out that the system also allows generators to hedge their risks in several ways. Besides, they add, internal trading within companies and long-term contracts between companies account for a large part, if not most of actual electricity sales, and they are based only indirectly on wholesale prices, so that generators should not suffer as badly as they claim.
The "benefits" of privatisation
One thing is certain, however - that this alleged 40% fall in wholesale prices has never filtered down to consumers, neither over the past year nor since privatisation.
Even Ofgem - which, of course, has a vested interest in showing that it is doing its job - has to admit that while electricity prices for industrial and commercial consumers have dropped by 34% since 1998, they have only dropped by between 8 and 17% for domestic consumers, depending on their supplier. Obviously the system has benefited companies more than domestic users.
But even these figures are misleading. They do not take into account standing charges, which have increased significantly. Nor do they take into account the discrimination which is now meted out as a matter of course by private suppliers to the poorest consumers. A recent report, entitled "The fuel picture", published by the National Association of Citizens' Advice Bureaux, exposes a long list of their cynical practices. One of them consists in imposing prepayment meters - which make electricity more expensive - on many poor consumers, regardless of their circumstances. The fact that, according to the CAB report, 4.5 million people live in circumstances where 10% or more of their incomes go into fuel payments just to maintain some level of heating, is in and of itself, proof that the standard of living of a whole section of the population is falling faster than electricity prices!
As to the variety of choice which, according to Ofgem, allows consumers to shop around for the best deal, it is a cynical farce. Of course, in order to lure consumers into switching to another supplier companies have resorted to all sorts of tricks - the most widespread being to offer a reduced price for the first few months, while the real price afterwards is hidden in the small print. So bills may be reduced initially but start increasing at a later point - to the extent that a sizeable proportion of consumers who had switched to a new supplier have later had to switch back to their previous supplier.
The CAB report mentioned above, explains that the most widespread complaint handled by CABs has to do with problems caused to people who have been switched to a new supplier without realising it. The case of Virgin HomeEnergy, which is a subsidiary of London Electricity, has been widely reported in the press. It turns out, according to the Guardian, that "young people were asked by salesmen to sign up for free CDs outside Virgin stores or to take offers on Virgin trains and flights, only to find their parents had their gas and electricity accounts transferred to Virgin without permission. Sales staff for Virgin HomeEnergy were also caught in a library in Enfield copying names from the electoral roll and transferring voters' accounts to Virgin without even visiting the address." The number of complaints about Virgin was so high that Ofgem felt compelled to impose a £2m penalty fine on London Electricity. Whether it will ever be paid is another question. But in any case, judging from the CAB report, London Electricity is not, by any means, the only culprit in this field. But this is what competition for customers is really about.
Another consequence of privatisation which has been largely forgotten by now, is the disappearance of the maintenance service that used to be provided by the old Electricity Boards to consumers. The workforce who used to do this job was the first target of the job slashers after privatisation. But they were only the first casualties of a very long list. In the first five years after privatisation alone, the workforce was cut by 42%, with subsequent cuts to date estimated at around 15%. No wonder a company like British Energy finds itself in a situation where four of its 15 reactors have to be shut down simultaneously. The necessary maintenance workforce is just not there any more. A report published last year by the Nuclear Installations Inspectorate, at a time when the company was about to make another 300 workers redundant, said that British Energy had cut so many jobs that it had no-one qualified to deal with an emergency at its Sizewell plant nor the minimum level of staffing in other plants.
Electricity privatisation has certainly benefited some - but only the shareholders of the big companies which shared out the bounty of the post-privatisation period. But those who paid the bill were the over 100,000 workers who lost their jobs over the years in the process, the poorest domestic consumers, many of them pensioners, who were not considered "profitable" by the electricity sharks and the whole working population which had paid for the building of the electricity network under the state monopoly in the first place.
Judging by Blair's behind-the-scenes manoeuvres with regard to BNFL and British Energy, there is every reason to believe that this government will, once again, use public funds to prop up the profits of the electricity companies if things get tougher for them. And yet if the experience of the past twelve years shows anything, it is precisely that electricity, like public transport, should never have been left in the hands of private profiteers. Whatever the advocates of "free entrepreneurship" may claim, there are areas of the economy which, by their very nature, have to be state monopolies in order to function properly and in a way which allows long-term planning - especially at a time when the capitalist class is no longer willing to risk its capital in large long-term investment. And if, as is the case in the railways already, all investment ends up being made with taxpayers' money, then why keep on board capitalist parasites whose greed can cause the system's fuses to blow?
31 October 2002