Ofgem is considering the biggest change in network regulation in a decade. On 10 March 2023, Ofgem published a consultation on frameworks for future systems and network regulation in which it considers new ways to regulate energy networks.
This represents the most extensive assessment of energy network regulation in Great Britain (GB) in over a decade and raises the question of whether Ofgem will force its existing model of ex-ante regulation, Revenue = Incentives + Innovation + Outputs (or, RIIO), into early retirement?
Since 2012, when it was first introduced, RIIO has provided for a stable and predictable framework for network investments, with settlements reached in advance and subject to periodic reviews every five to eight years.
Over time, the model has allowed service levels to improve, and lowered costs, but it has increased complexity and administrative burden too.
Ofgem consultation calls periodic reviews into question, probing whether the benefits of a ‘static’ regulatory model like RIIO will continue to outweigh the cost in a rapidly changing environment.
In what could be the biggest change in network regulation in a decade, the consultation considers three alternative regulatory models, or ‘archetypes’:
- Archetype 1 – Plan and Deliver. A central planner, like the newly created Future System Operator (FSO), will take many of the investment decisions that would normally pertain to Ofgem and network companies (e.g., on need, output and delivery) in a price review. This is expected to simplify the business planning process and reduce reliance of ex-ante reviews.
- Archetype 2 – Ex-ante Incentive Regulation. Simplified approaches to ex-ante regulation have been proposed. Amongst these, a simplified cost efficiency incentive, or an ex-post efficiency assessment for ‘repeatable’, business-as-usual (BAU) activities have been suggested, providing these activities can be ‘carved out’ of companies’ business plans.
- Archetype 3 – Freedom and accountability. Companies will be free to decide the most efficient way to deliver their outputs. Ofgem, on the other hand, would monitor output delivery ex-post, rewarding companies for realised efficiencies, and vice versa. Companies’ return will be set on a cost-plus basis. Effectively, a form of rate-of-return regulation.
In addition to the consultation, Ofgem intends to run an intense programme of stakeholder engagement over the coming months with the aim to decide upon the most appropriate model for the upcoming reviews of the transmission and gas distribution sectors in autumn this year.
This is by far the most extensive assessment of energy network regulation that has taken place since the RPI-X@20 review, which led to the RIIO model being introduced in 2012.
We will be following these developments very closely, and with a question at the forefront of our mind: 10 years on, will Ofgem force RIIO into early retirement?