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Why power prices aren't falling

• Robert Peston
• 20 Oct 08, 09:49 AM

There was a hope that a global economic slowdown, which has led to a fall in oil prices, would also lead to a fall in the gas and electricity prices we all pay.

Well, don't hold your breath - for all the pressure that the prime minister, no less, put on the energy companies this weekend to cut their energy tariffs.

I've been talking to those who run our big power companies. And this is what they say:

1) gas prices are still 70% higher than where they were last winter, in spite of a fall in the past few weeks;
2) electricity prices are double where they were last winter;
3) there is very little spare capacity in the electricity generation market, because of the age and fragility of our generators, so there's a risk that - if another generator were to fall over - electricity prices could rise further;
4) over the summer, energy companies bought power on the forward market at prices that are higher than where they are today;
5) it's currently very difficult to hedge power prices at the slightly lower prices now prevailing, because the credit crunch has reduced the capacity of financial firms to take the other side of bets on the future path of energy prices (which is why certain power companies are no longer providing big fixed-price contracts to huge industrial consumers);
6) all the power companies are generating much reduced profits from their retail energy businesses, such that if they suffer a further margin squeeze they may well find it harder and more expensive to raise credit (another painful impact of the credit crunch);
7) power companies have no idea whether this winter will be cold, and therefore whether there will be a surge in demand for gas and electricity, which will lead to a spike in wholesale prices.

Put it altogether and what you've got is the near-certainty that those increased prices we saw in the summer - with British Gas increase the gas tariff by 35% and electricity by 9% - will prevail for many more weeks to come, and possibly all through the winter.

All the power companies will do what they can for those on lowest incomes. And they are conscious that for small businesses, the high cost of energy can prove fatal.

But the vast majority of us would probably be foolish to factor into our budgets any significant fall in what we pay for energy.

UPDATE, 10:40AM: If you are looking for gloom, today's public sector net borrowing figures are simply dreadful: £37.6bn for April to September, up from £21.5bn a year earlier.

And this horrible increment has come before we've seen any significant impact of the economic slowdown on personal and corporate tax receipts.

Public sector net borrowing in the current fiscal year may well turn out to be at least 50% greater than the £43bn forecast by the chancellor in March.

And, as I've been pointing out (see "Spend, Spend, Spend?") all the pressures on the government are to spend more in the short term, to lessen the downturn in the economy - which will lead to even greater public-sector borrowing.

Which is why many economists would argue that the priority for the Treasury is not to raise taxes or slash public spending now, but to map out a credible path for reducing public sector debt from 2010 onwards.

If the chancellor fails to do this, sterling and UK government bonds will come under very heavy selling pressure - and the cost for the government of servicing all that debt could rise quite sharply.

UPDATE, 12:36PM: I have looked again at where we are on wholesale gas and electricity prices - and they don't imply we are close to serious reductions in what we're charged.

Wholesale gas prices for delivery in the first quarter of 2009 are 62% above last winter's price. And electricity prices for the same period are 67% up, year on year.

As for wholesale electricity prices for November and December, they are even higher.

What's galling is that wholesale gas was supposedly priced off the oil price on the way up - but now that the oil price has more than halved, the gas price seems to have de-coupled (to use the awful jargon).

There's a bit of a smell around all of this. Few would probably argue that the gas market is either rational or efficient.

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Crisis is business as normal

• Robert Peston
• 20 Oct 08, 07:29 AM

Well it's been the quietest weekend since the beginning of September.

What's happened over the past couple of days?

1) Chinese growth in the third quarter of the year slowed to its slowest rate in five years and grew at a lower pace than most analysts expected. The growth rate was 9%.

Please don't laugh. I know we'd love a bit of that in the UK.

But by the standards of the world's great manufacturing machine, this was significant. And it was the industrial production figures where the brakes (sort of) were on. Industrial production rose 11.4% in September, the smallest increase in more than six years, due to weaker export orders and the closure of factories for the Olympics.

As you know, I've been boring on about how we can't rely on Chinese growth to keep the global economy out of a serious slowdown.

But here's an encouraging statistic: retail sales rose 23.2% (oh yes) in September, not far off a nine-year record. Chinese consumers are trying to do their bit for the rest of us, for which we should be thankful.

2) The South Korean government guaranteed $100bn of its banks' foreign-currency debt and provided $30bn in US dollars to them.

This proved, if there were a doubt, that the economies most exposed to the credit crunch are those where the banks have greatest net exposure to overseas sources of funds - which would be Iceland, at the extreme, and the UK as a battered median case.

South Korea is unusual in an Asian context in having a banking sector that's not wholly funded by domestic retail deposits.

And that banking sector lost the confidence of providers of wholesale funds in part because its banks sold many billions of dollars of hedges again the US dollar to more than 500 local companies.

International investors fear that these companies would collapse, because they've suffered huge losses on contracts - known as KIKO or "knock-in, knock-out" contracts" - following a plunge in the value of the Korean won.

The won has lost a third of its value this year, and dropped almost 10% on Thursday alone.

So South Korea has had to join the US, much of Europe, Australia and Hong Kong as a member of the Great Global Banking Bail-out Club.

3) Talking of the Club of Global Banking Shame, ING - the pride of Dutch banking - is receiving a €10bn injection of new capital from the Dutch government.

Why? Well at the end of last week it suffered its first ever quarterly loss and its share price slumped 27% on Friday.

That's a mere trifle compared with the gyrations of the shares in our banks on a daily basis.

But this is not a moment to allow even a scintilla of doubt that any big bank anywhere in the world won't be 100% supported by taxpayers.

Inevitably I've been e-mailed overnight by viewers and readers questioning why the British authorities allowed ING to take over £3bn of British depositors' money from a pair of battered Icelandic banks less than a fortnight ago.

Perhaps that is a little bit embarrassing for the Financial Service Authority, the City watchdog, and for our Treasury.

But only a bit. Their analysis that ING is far too big to be allowed to fail - rather bigger than the entire Iceland economy, for example - is correct.

4) Wrap all this together and what do you have? A fall in interbank lending rates in Australia, Singapore and Hong Kong (a sign that banks are hoarding just a bit less) and rising share prices all over Asia.

In other words, global economic slowdown and banking crises are the new norm. Markets have perhaps become a bit more resilient to all but humungously horrible events.

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