Set the Pylons Free

An open letter to the Prime Minister from Ofgem*

*Not really, but the Prime Minister asking all the regulators for ideas on how to increase growth is far too apt a framing device to avoid for my next post about cutting costs in the energy system.

Dear Prime Minister,

We received your request for pro-growth ideas with some interest, especially in the light of our new duty to promote it. There is an enduring confusion at the heart of the Government’s guidance to regulators on what promoting growth looks like. It is not clear whether reducing regulatory burdens is more pro-growth than rapidly regulating new sectors. The experience of the smart energy sector in the UK, which is currently being strangled in its crib by being regulated before it even has the chance to exist, rather points to the former.

We therefore expect that pro-growth regulation involves allowing businesses to do what they need to expand inasmuch as it does not push excessive costs onto others. But the fundamental problem that faces regulators is one of information asymmetry: we don’t know what businesses need to do to expand in advance of them needing to do it, and it’s entirely possible that we are accidentally constraining growth through a regulatory model that does not anticipate particular business needs.

There are very reasonable grounds for believing this to be the case, and they sit at the heart of how the energy sector is regulated: through the licencing system. Activities involving energy in the UK almost always require a licence, and where they do not they require a specific exemption. This means that businesses always require some kind of regulatory decision even when the regulator has very little understanding of what they’re doing and even fewer resources to devote to it. But this is a broader strategic issue for another day, as there is a very pressing example of this that we believe satisfies your requirements.

Missed Connections

New electricity connections, or rather the lack of them, have been the subject of considerable angst from businesses wishing to grow. They are an explicit constraint on industries ranging from semi-conductor production to the data centres so important to the delivery of AI. The actions taken by the sector to manage this challenge have been focused on better management of the queue to connect rather than a much more explicit focus on how we get through the queue more quickly. In this, there are shades of the months it took to get a new phone line in the UK before the privatisation of the sector. We are asking how to share the pie rather than how to grow it.

New connections are the business of the electricity networks. We regulate electricity networks on the grounds that they are a ‘natural monopoly’. And we do indeed have monopoly providers of transmission-level infrastructure, and quasi-monopoly providers of lower voltage infrastructure. Such providers, free of regulation, would be free to charge whatever they chose to their customers, likely to their detriment. The risk that someone builds an alternative national transmission network would be very slight and only represent a very small break on price gouging.

Or would it? In 2023 we consulted on, essentially, constraining the ambitions of independent distribution network operators (IDNOs) who have, historically, delivered connections at a greater speed and a lower cost than the distribution network operators (DNOs) who represent the inheritors of the nationalised industry. This competition, stretching up into connections to the transmission network, represented a threat to the ability of the more regulated networks to recover their costs, and thus a threat to our duty to ensure that they can efficiently finance their operations. The quid pro quo for networks being regulated is that they will never suffer losses, after all.

However, the IDNOs cannot solve the connections problem for us, because they build networks that essentially plug into existing networks and do not increase the capacity of those networks for those within them. What they do represent, however, is an important break with the idea of networks as a monopoly: they are a rejection of the idea of a monopoly of origination of new network projects.

Breaking the Monopoly of Origination

New transmission projects can essentially only be proposed by the National Energy System Operator (NESO) or by the operators of the old nationalised network, the Transmission Operators (TOs). They will build out infrastructure in response to demand at their own pace, and they are currently due to expand their investment by £60 billion in order to meet the challenges of delivering Clean Power 2030. Companies that want a transmission connection have to apply to one of these TOs for one, and again, there is a queue.

If we want to unlock growth in the UK, at the heart of it has to be the idea that anyone who wants a network connection can have one in a timely fashion. We cannot achieve this with the current total monopoly at the transmission level and the partial monopoly at the distribution level. The reason why it took so long to get a phone connection under nationalisation was because the GPO, BT’s ancestor, was a monopoly, not because it was nationalised. We need the equivalent of companies willing to invest in fibre optic cables at the street level to act as competition.

While we are starting to introduce competition into the provision of transmission, there are no plans to introduce competition of project origination. The reason for this is quite clear. A new electrical connection is not simply a matter of stringing a wire from a new factory to a local pylon, but rather ensuring that with this new load the system can continue to be operated safely. This means ensuring there is enough capacity in the wider network to manage this load. The UK’s requirements for system security frequently mean that for additional connections not one circuit requires reinforcement, but multiple. And those circuits are on the pylons owned by the existing TOs and DNOs.

This gets us to the heart of our proposal. If we want data centres to be able to simply pay someone some money and get a connection as quickly as they can, we need to restructure the sector so that anyone can build new transmission and distribution infrastructure and its necessary reinforcements. We need to unlock the ability of consortia to create special purpose vehicles to build new connections, much as during the industrial revolution businesses would club together to build new railways.

Right now this is just about possible; you could in theory set up new transmission and distribution companies and apply for a licence, but the entire regime is explicitly not set up to do this outside of a few exceptions like offshore transmission for wind farms and interconnectors. There is no general right to build pylons.

Moreover, going down this route would involve considerable pre-determination of business models and returns, as well as compulsory participation in our price control process. If people want to build pylons at their own risk without guaranteed returns, they should be permitted to do so. There are implications for how they charge for such services, which we will come onto later.

The Marriage of Networks

If a consortium of data centres wants to build their own connection, they will need to build a multiplicity of wires and transformers. Some will be from their site to a local substation, some will be over public or otherwise privately owned land. And they will need to ensure that the upstream network remains secure, through activities like reconductoring existing pylons, building wholly new connections, and expanding and reinforcing substations. But this existing infrastructure belongs to someone else.

The primary decision that faces general pylon permissions is sorting through these varied and overlapping property rights and identifying an appropriate mechanism for ensuring they are treated fairly. It is perfectly reasonable for our consortia to buy land next to an existing substation for the purposes of expanding it, assuming a process for integration can be agreed. It is more challenging for a consortia to replace the wires of an existing connection directly. Pylons and wires represent an investment on which the TO would expect to make a return. If someone else upgrades your pylon, can you still enjoy equivalent returns? Who is now liable if it goes wrong? Who can levy charges on the power that flows through it?

These are complex questions that one may assume require a regulatory answer, but to seek to regulate a novel business is to fall back into bad old habits. Instead, the answer must be explicitly commercial. If our consortia can successfully negotiate with existing TOs to invest in their infrastructure, likely under a principle of the TOs being no worse off, they should be able to do so. If this proves commercially impossible and our consortia needs to build a second pylon next to an existing one, they should also be permitted to do so. The network is highly complex and seeking to mandate a single commercial arrangement from the centre is likely inefficient, but moreover, will almost certainly be slower. The objective of this proposal is to enable growth at speed, after all.

The Charges of the Lightning Brigade

New infrastructure built under this model will be explicitly for private benefit, but wider network reinforcements will have a public benefit too.

It is not only the consortia that will benefit from additional network capacity, but anyone who can make use of it when the consortia are not using it - or indeed any headroom it generates as a consequence of the UK’s security of supply standards. This means it can unlock additional investment over and above the monies spent by our consortia.

It is therefore reasonable to permit consortia-led reinforcements to place a charge on public use of their networks, but rather than the holistic charges of existing networks it must be based purely on the additional demand the reinforcement enables.

Any charges levied would therefore be purely volumetric or potentially based on peak demand, likely as a percentage increment of existing charges. It would also likely be insufficient for the consortia to make money from the charge in itself; the SPV would likely always run at a loss. But this is entirely fine if the whole point of the SPV is to enable its participants to make money from another source. Indeed, if the SPV goes out of business and one of the legacy networks acquires its assets cheaply, the public have just benefitted from network infrastructure for which they otherwise would have had to pay the full capital cost.

A Nation Festooned

The downside of this proposal, of course, is that it would likely lead to more construction of electrical infrastructure than would otherwise be the case. These projects would also need to get through the planning system, and we assume that the Government’s planned reforms due this winter will make building new infrastructure much easier. Communities that find themselves hosting multiple upgrade projects may well be put out.

Or not. We note that the rapid expansion of the SuperGrid in the 50s and 60s took place under a regime that involved barely any consultation at all. The first time most people were aware that a pylon would be built near them was when the surveyors turned up to measure out the route. And while this did receive some pushback, there is presently not a campaign to tear down the SuperGrid, which is testament to the longevity of that pushback.

What there is, however - and here we very much overstep our bounds as a regulator - is a concerted populist revolt against the seeming inability of any centrist party to deliver meaningful change. We know that building new infrastructure is one of the markers by which voters judge that the Government is getting on with the job, and while the plans for Clean Power 2030 will certainly lead to lots of new infrastructure, it will be considerably less focused on demand than it will generation. For the restoration of economic opportunity throughout the country we need to make it easier to get connected. And to do so, much like in the 1980s, we need to break a monopoly.

With very special regards,

Ofgem