The future of economic regulation

This note is a position paper based on the discussion at the Future of Economic Regulation Roundtable, held on July 16th 2025. It does not reflect the views of all attendees.

The need to rethink economic regulation in the UK

The UK’s independent economic regulators are no longer independent of Government or solely concerned with economic regulation, and their duties to promote competition have been weakened.

This has reduced their effectiveness, increased their cost and reduced the responsiveness of the regulated sectors to customer preferences and to innovation.

At privatisation in the 1980s, the economic regulators were conceived of as having a relatively narrow focus: ensuring the cost efficiency of the newly private utilities by promoting competition where possible, and otherwise by setting price caps reflecting an appropriate level of return. For those businesses thought to be natural monopolies not subject to competition, economic regulation was necessary in order to simulate the discipline of the market. How these businesses achieved that efficiency was largely left up to them. The independence of the regulator was seen as vital to provide confidence to investors that the networks would not be subject to political interference.

Over the last thirty years, this role has ballooned into onerous scrutiny of business plans and precisely defined outputs. What ‘cost efficiency’ looks like is now tightly prescribed, and the role of utilities has been reduced to being essentially conduits for private capital into a role that is otherwise specified by the State.

And yet, this heavy specification has not achieved cost efficiency, most notably in water but also in the substantively higher costs of new energy infrastructure than under the nationalised regime. The Great Grid Upgrade is expected to cost more than half again per gigawatt of capacity than the construction of the SuperGrid in the 1950s and 1960s, while being delivered more slowly. The information asymmetry problem – that the regulator will always have less information on the business it regulates than the businesses themselves – has meant that utilities have always been able to make greater returns than the regulator expected. Heavy specification has been the regulators’ response to this problem, with little evidence that it has held down costs. There is no evidence that the regulators have seriously considered other routes; there is no sense of a regular reflection on whether and how regulation should happen. It is particularly unclear whether Ofgem has seriously reviewed whether its RIIO framework is suitable for the enormous volume of investment required in our electricity frameworks and a changing role for the gas network. 

While this process continues, the institutional landscape around the energy regulator has changed significantly. The National Energy System Operator (NESO) now centrally plans much of the UK’s energy infrastructure. Inasmuch as its plans are the UK government’s position on which infrastructure needs to be build, it is unclear whether Ofgem does indeed have the liberty to reject its infrastructure choices. Ofgem has avoided in this in RIIO T3 by placing much of the investment NESO’s plans call for into uncertainty mechanisms, which serve to preserve a veneer of independence at the cost of considerable additional evaluation by Ofgem of projects on which NESO has already undertaken such evaluation. The value of this to both the pace and cost of energy infrastructure is unclear.

This highlights a subsequent issue: NESO is the repository of most of the UK’s technical understanding of this infrastructure, to a far greater extent than Ofgem. And yet, Ofgem regulates NESO and subsequently makes choices about the relative importance of its functions with a lower level of understanding of the choices NESO is making. In the event that NESO makes an error, is it accountable, or is Ofgem accountable for failing to regulate? And if Ofgem by nature of the issues over which its vires range does not have the internal understanding necessary to be held accountable for that regulation, who ultimately should Parliament hold to account?

Without named individuals responsible for the sweeping changes to the energy system the country faces, we risk considerable failures of governance. This matters now, because enormous volumes of capital are required to deliver the Government’s Clean Power 2030 vision. Price controls were designed for a system with incremental growth in mind. The heavy transaction costs the above implies for both utilities and other regulated sectors contraindicates the Government’s desire to deliver CP2030 at pace and at lowest cost.

The need to restore competition over regulation

This preference for heavy specification has bled across into how the competitive markets like energy supply are regulated. For example, the standard conditions of an electricity supplier licence are now over 600 pages long, not factoring in the pages of additional guidance and letters to CEO issued by the regulator every year. While there is an argument that some sectors such as energy and water are vital for life and require additional protection, the sheer scale of regulation in this space should prompt a regulator that believes in competition to pause for thought. This does not appear to have happened. Instead, regulators have expanded their staffing to manage their own output, to a level at least double of comparator economies. This is in the context of the need to encourage innovation in energy retail as demand electrifies. Innovation is not facilitated by having hundreds of additional officials who now need to justify their roles through market intervention. 

This is partly explicable through the slow demotion of competition as the duty of the regulator to one amongst a growing host of competing duties. These duties typically involve trade-offs that the regulator is expected to manage internally, even when those trade-offs are overtly political in nature. In the absence of a clear steer from democratically elected politicians, a regulator is forced into interventions with more defined outcomes than the necessarily unknown outcome of a freer and more innovative market.

In this wider context of expanded duties, key structural assumptions remain unexamined. This includes the assumption that utilities are natural monopolies. This is now increasingly untrue, if it ever was. There is no reason to think that competition cannot apply to asset provision, if not asset maintenance. When assets of the scale necessary to meet the challenges of both the water and energy sector are needed, falling back on price regulation rather than competition is an indication of a system favouring the interests of finance over those of the consumer. While competition is increasingly possible, it is so laden with requirements and provisos – as in early competition for network assets, where both design and cost can be contested – that the very innovation it should unlock is stymied.

At the same time, direct competition in service provision is increasingly possible, especially in energy. Access to electricity is no longer only possible through the distribution network, but through home and local generation and storage. The need for network capacity of a certain size is contraindicated by the ability of local demand to flex like never before. The recent price control round has specifically moved back towards reinforcement rather than flexibility. While businesses moot the creation of their own microgrids, the regulator has not recognised that the entire justification for distribution-level price controls is now unclear.

It is therefore not clear that the existing institutional set-up is appropriate for the next five years, let alone the run up to 2050. The role of the consumer in all of the above is radically underweighted. Ofgem ostensibly believes that they can gain greater insight into consumers through intermittent social research than the companies that engage with them every day. Moreover, the fact that it feels the need to do so renders it more of a market participant than a market facilitator, increasing the temptation to regulate for how businesses should act rather than the outcomes they should deliver.

Maintaining confidence in the system requires a solution that genuinely aims at discovering and providing the ever-evolving outcomes consumers want, not those specified from time to time by the regulator.

Attendees

• Peter Atherton, Stonehaven
• Adam Bell, Stonehaven
• Arthur Downing, Octopus Energy
• Sam Dumitriu, Britain Remade
• Rachel Fletcher, Octopus Energy
• Ed Hezlett, Centre for British Progress
• Professor Stephen Littlechild, Energy Policy Research Group
• Alexandra Meagher, Octopus Energy
• Daisy Powell-Chandler, Public First
• Ben Shafran, ESC (personal capacity)
• Paul Smith, Fingleton
• A representative of a transmission network operator
• A representative of a major energy retailer