Ofgem confirms tougher framework for a smarter, flexible, low carbon electricity distribution price control

·       Ofgem’s framework for the next round of electricity distribution price controls will lower company returns and save consumers money

·       It will drive electricity distribution companies to go further to decarbonise power generation, transport and heating where required to help deliver a net zero emissions economy.

·       It will also ensure companies use network capacity more flexibly and make the case for any new and anticipatory investment needed to support decarbonisation, for example for electric vehicles.

Ofgem has confirmed the framework it will use to set the next price control for Great Britain’s electricity distribution networks (RIIO-ED2) to enable them to continue to operate a safe and resilient network and help deliver a net zero economy at the lowest cost to consumers.

Ofgem’s price controls set the revenue monopoly network owners can earn from charges on consumers’ energy bills. Electricity distribution networks are the local grids transporting electricity to and from homes and businesses. 

In deciding the framework for the RIIO-ED2 price control starting from April 2023, Ofgem has set electricity distribution network companies the objectives of delivering a decarbonised, safe and resilient network that meets all consumers’ needs, including vulnerable consumers. 

Ofgem is continuing to develop its approach to some of the key strategic challenges facing the electricity distribution networks. This includes how the RIIO-ED2 price control can enable companies to meet new sources of demand on local grids, such as electric vehicles, by improving how we allocate, use and charge for network usage, as well as making better use of flexible solutions such as storage or demand-side response options to shift consumption during periods of high demand.  These can be both less expensive for consumers and delivered quicker than building new network and generation capacity. According to Ofgem analysis if owners use ‘flexible’ charging - where they only top up outside peak demand times on the grid – at least 60% more electric vehicles could be charged up using existing capacity compared with ‘inflexible’charging where electric vehicles are only charged at peak times. 

The approach also includes how to help deliver any new investment in infrastructure to meet anticipated demand (“anticipatory investment”). Such anticipatory investment would apply, for example, to an expanded charging network for electric vehicles when the level of demand or future use of electric vehicles is not yet certain. The approach will help protect consumers from the risk of paying for unnecessary or underused infrastructure. 

Ofgem will be consulting on its detailed sector specific methodology for the electricity distribution network price control next summer.

Cathryn Scott, acting executive director for systems and networks at Ofgem, said:

“As we decarbonise our society and economy we will increasingly rely on renewables to generate the electricity to power the country, our vehicles and potentially heat our homes too. Electricity distribution networks will be crucial to making this transition to a smarter, net zero emissions economy. 

“Ofgem’s stable and predictable regulatory regime will allow companies to attract the investment they need to go further in decarbonising the system whilst saving consumers money by keeping returns as low as possible.” 

Notes to editors

(1)       Today’s decision relates to the electricity distribution price control (RIIO-ED2) which runs from April 2023 to March 2028. However, many of these decisions are similar to our methodology for the gas/electricity transmission (T2) and gas distribution (GD2) which will run from April 2021 to March 2026. 

(2)       When calculating the allowed return on equity for electricity distribution companies, we will apply the same methodology that we have set out for gas/electricity transmission (T2) and gas distribution (GD2) price controls. For the financial framework we have also decided to: 

-          Retain debt indexation for RIIO-2

-          Use either CPI or CPIH for inflation measurement in calculating both RAV and allowed returns

Ofgem has confirmed that the default length of the next price control running from April 2023 will be five years (compared with the current eight years). 

(3)       Any final savings to consumers will obviously depend on a number of factors that are still to be confirmed. 

(4)       This year the UK and Scottish Governments passed legislation enshrining in law the target of net zero carbon emissions by 2050 and 2045 respectively. In July, we published our Strategic Narrative, which set out that helping the UK achieve a net zero emissions economy at the lowest possible cost to consumers is one of our three core priorities.  In light of both our Strategic Narrative, and targets for net zero, we will be setting out our initial actions to drive forward the decarbonisation in the energy sector early in the new year.

(5)       Since 1990, network companies have invested around £70 billion in the national and local electricity grids, operating one of the most reliable networks in Europe. Power cuts have almost halved since 2001, while customer satisfaction with local networks has improved significantly. Under our price controls, the cost of transporting a unit of electricity around Britain has fallen by 17% since the mid-1990s, relative to the Retail Price Index.  

(6)       Key features of the price control include:

a.   Using the same methodology as the other RIIO-2 price controls starting in 2021 to calculate the return that can be paid to equity investors. This will reduce the returns by more closely aligning it to financial market conditions so that it better reflects the low risk borne by networks in a stable and predictable regulatory environment.

b.   Reducing forecasting error by indexing, rather than trying to forecast, key variables such as interest rates which better adapts to changes in financial market conditions and reduces uncertainty. 

c.   Adopting an outputs and incentive framework that focuses on the things that really matter to consumers, including high levels of reliability.

d.   Imposing tough scrutiny of electricity distribution network company business plans through an extension of the Enhanced Engagement programme used for the transmission and gas distribution sectors, including the central RIIO-2 Challenge Group and company-level Customer Engagement Groups.

e.   Using competition rather than monopoly regulation to drive efficiency, where appropriate, including the use of new flexible technologies to compete with traditional investment, where the benefits are likely to exceed the costs.

f.    Retaining a strong innovation stimulus covering both large-scale strategic R&D projects as well as smaller scale technological innovations, with a focus on decarbonisation and vulnerability.

g.   Confirming the introduction of automatic correction mechanism (called return adjustment mechanism) to protect consumers against the risk of extreme deviations in company returns.