Ofgem launches consultation on Balancing Mechanism reforms

Tuesday, 11 July 2023

The UK energy regulator, Ofgem, has initiated a formal statutory consultation to discuss the introduction of a new licence condition aimed at preventing electricity generators from securing excessive profits through the Balancing Mechanism.

This mechanism is a crucial tool used by the electricity system operator (ESO) to balance supply and demand on the UK's electricity transmission network.

The consultation follows a comprehensive investigation by Ofgem into potential abuses of the existing rules by some electricity generators. The investigation was prompted by concerns that these generators were exploiting the rules to gain excessive financial benefits, leading to increased costs for consumers.

The investigation revealed that some thermal generators were scheduling their operations to stop output early in the afternoon. Given that these generators require up to six hours to cool down before they can operate again, this scheduling made them unavailable for the evening peak period.

These generators would then use the Balancing Mechanism to offer a price to the ESO to continue operating throughout the afternoon, thus ensuring their availability for the evening peak.

On high-demand days, these generators have been known to charge exorbitant prices for extended durations, leading to increased balancing costs that are ultimately borne by consumers.

In response to these findings, Ofgem is now consulting on the introduction of a new licence condition to limit this practice and protect consumer interests.

The regulator has revised its proposals for the new licence condition based on industry feedback received during an earlier consultation in February.

Eleanor Warburton, Acting Director for Energy Systems Management and Security, stated that Ofgem is dedicated to protecting consumers and ensuring fair energy pricing. The proposed new licence condition is designed to prevent electricity generators from exploiting existing rules to secure excessive profits through the Balancing Mechanism.

The regulator is now seeking final feedback from the industry on the proposed changes, with the aim of implementing the new rules in time for the winter season.

The Statutory Consultation on the Inflexible Offers Licence Condition (IOLC) is currently open for public review on Ofgem's website. Interested parties are invited to submit their feedback. The consultation is scheduled to close on 27 July 2023, with Ofgem planning to publish its final decision later in the year.

The proposed Inflexible Offers Licence Condition (IOLC) aims to introduce stricter profit controls to prevent certain generators from operating inflexibly and gaining excessive benefits. Feedback from the industry suggested that some aspects of the initial proposals could discourage generators who were not seeking excessive profits and potentially undermine the security of supply.

In response to this feedback, the proposals have been amended to apply only when generators attempt these practices close to real time (i.e., within the operational day).

Ofgem believes that the revised proposals strike an appropriate balance between protecting consumers from excessive Balancing Mechanism costs and allowing generators to secure a reasonable profit.