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UTILITY Week 6th June

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12 | 6th - 12th June 2014 | utILItY WeeK Special report Analysis H ow comfortable would you be placing a £45 million bet on the success of a scheme which at best may have no clear impact at all? For energy traders, taking a calculated punt has always been part of the game. But most agree that Ofgem's latest gamble on the wholesale electricity market under Electric- ity Market Reform (EMR) offers terrible odds: there is little chance of measurable suc- cess and will hit the big six for an estimated £45 million, and potentially their customers into the bargain. At the end of March Ofgem imposed costly new liquidity rules on the biggest players in the UK electricity market, in a bid to "break the stranglehold of the big six" by increas- ing the amount of power traded on the open market while boosting market access for small suppliers. As it stands, trading levels in the UK power market are less than half 2002 lev- els, which Ofgem blames on the increase in vertical integration through mid-2000s. The structure of the sector now poses a hurdle to potential new market entrants, the regulator claims. "In order to support competition and effi- ciency in a market, liquidity is vital," Ofgem says. Few would disagree with the need to act. Late last year, Labour leader Ed Milliband vowed to tackle competition concerns by separating the generation and supply sides of the big six if his party wins next year's election. The possibility of a split was raised again aer Ofgem referred its own competi- tion investigation to the Competition and Markets Authority, which has the power to order a break up of the big suppliers within the next two years. In the meantime Ofgem has controver- sially opted for a different ra of solutions, which may prove to be more costly than they are beneficial, and which could ulti- mately be irrelevant in the face of far bigger interventions. EDF Energy pointed out in the consul- tation phase of EMR that the total cost of Ofgem's plans could exceed £45 million, and they may still have little impact on market liquidity. "The question is whether or not the ben- efits of the measures outweigh the cost of implementing them," says the chair of the UK's Power Trading Forum (PTF) Stephen Harris. Ofgem's solution to a lack of liquidity in the power trading market is to force a major change to the way the largest power market participants trade long-term power contracts. Through the regulator's mandatory mar- ket obligation, the utilities are expected to act as "market makers". This means they need to simulate a functional market of buy- ers and sellers by putting forward the prices at which they are prepared to buy and sell long-term power contracts. Specifically, prices need to be posted into the market during the two one-hour "liquid- ity windows", which are held at 1030 BST and 1530 BST every day, for deliver-periods up to two years in advance. The measures will guarantee smaller market participants the opportunity to either buy or sell power with a large generator, without which they might not have been able to. Whether the measures are successful or not, the cost and burden to the power mar- ket's dominant players is undeniable, the PTF's Harris said. "For obligated parties I can imagine that the mandatory market-making is a bit of a headache. Traders will need to be concerned not only with whether they are compliant but also if they are trading in a way that makes sense for their position, so it is defi- nitely an extra burden," Harris says, adding that new systems and processes will come at a "significant cost". Ofgem hopes that by creating greater opportunities for smaller players, competi- tion will flourish and cause prices to fall. But if the plan fails, the price paid in pur- suit of market reform could be passed on to consumers. Ultimately, the success of the plan depends on two strongly criticised assump- tions: first, that market making is the best way to boost liquidity; and second, that liquidity even matters to the end-consumer bill. The consultation triggered an avalanche of criticism from big six participants, who questioned both these assumptions. They said greater liquidity was not necessarily a likely result and even if it did occur, this Liquidity is a moving target Many in the industry are sceptical that Ofgem's effort to increase liquidity under EMR will work, and fear that the CMA inquiry will render the whole project redundant anyway, says Jillian Ambrose. 16,000 14,000 12,000 10,000 8,000 6,000 4,000 1,200 1,000 800 600 400 200 0 MW Traded volume (MW) Number of trades Long-term power Liquidity Jan 2013 Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec Jan 2014 Feb Mar Apr May

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