In a lengthy four hour debate this week, the House of Lords has highlighted some serious concerns about the Government’s Water Bill which is now under consideration by the second Chamber.

The Second Reading debate on 27 January was the first opportunity the Lords has had to debate the key principles and main purpose of the Bill.

Introducing the debate, Parliamentary Under-Secretary of State, Department for Environment, Food and Rural Affairs Lord De Mauley said there were two important parts to the Bill -  reforming the water industry to ensure it was fit for the long-term and providing a solution to deal with the availability and affordability of flood insurance for households at high risk of flooding.

The Bill would extend competition to drive innovation which would keep downward pressure on bills for all customers – not simply the non-household market. For business, it was a significant reform which would bring significant gains for multi-site customers—such as hospitals and supermarkets—which could save thousands of pounds in administration costs by dealing with only one water company across their estate.

Competition would drive water companies to offer better water efficiency advice and other services to attract customers, such as smart metering and improved customer service, with knock-on benefits for householders.

However, householders would not subsidise the costs of increased competition and Ofwat had confirmed it had the tools needed  to ensure this, referring to Ofwat’s estimates that the current price review could reduce pressure on bills by between £120 million and £750 million a year from 2015.

On the proposed Flood Re reinsurance scheme which will limit the amount that high-risk households have to pay for the flood insurance element of their premiums, the Government’s ambition was that it will be up and running in 2015. To fund the scheme, an industry-backed levy - initially expected to be £10.50 per policy-  would be introduced. However, Lord De Mauley cautioned that the Government was also seeking reserve powers to provide affordable cover if Flood Re should prove unworkable or prices in an open market prove unacceptable.

Labour - Bill only tinkers at the edges

Labour peer Lord Whitty - the only Member to serve on the boards of both Ofwat and the Environment Agency  - provided a critical response, commenting:

“I am afraid that that experience leads me to conclude that the Bill is not really up to the job of sorting out a strategic future for the sector. … I am afraid the Bill only tinkers at the edges, important though some of those interventions are. So there are huge gaps in this Bill.”

Lord Whitty expressed particular concern about the abstraction licensing regime, warning that if the Bill’s provision for the introduction of upstream competition, although not happening before 2020, would be highly dangerous before reform of abstraction licencing had been implemented and asking why wait it was necessary to wait until the 2020s before Lord Whitty also warned that the Bill’s provision for the introduction of  upstream competition, although not happening before 2020, was highly dangerous before reform of the existing  abstraction licencing regime had been implemented. Why, as the consultation suggests, do we have to wait until the 2020s before any changes were implemented.

Govt should not exaggerate transformational degree of competition

On competition, he said that while theoretically, 1.2 million customers would now be able to choose alternative retailers, in practice it was  unlikely that there would be anything like 1.2 million people taking advantage of the market. The majority of small businesses, for example, were even less likely to switch—as seen from the energy market—than are domestic consumers. Lord Whitty said:

“Although competition is important and puts an edge into the industry, we should not exaggerate the degree to which it is transformational.”

He also called for provisions in the Bill to be strengthened to ensure that domestic consumers are not disadvantaged by the fact that “part of the non-domestic market is getting a better deal. “

Lord Whitty said:

“Even where there is effective competition and some choice, the provisions do not fully deliver an effective, functioning market. ….Entry into the market appears to be largely by negotiation with the incumbent company rather than by open and transparent price competition, as would be the case in most markets. Even more surprisingly, there is no provision for exit from the market. Surely provision for exit from the retail market by poorly performing competitors or incumbents is essential for a properly functioning market. “

Lord Cameron of Dillington called for the Bill to contain more enabling clauses that permit the water industry to make more competitive and environmental progress without having to wait for another water Bill, which was unlikely to come along for a decade or so. The end game must be to have retail competition across all water customers, commercial and domestic but it appeared this would have to wait for another water Bill before household competition could be introduced.

Risk that new competition regime could be bureaucratic and prone to error

Baroness Neville-Rolfe expressed concern that the new competition regime with a new market operator, appeals to the Competition and Markets Authority, charging guidance and charging codes, and any new regulations made under the new powers, when fitted together with the existing Ofwat regime and the work done by the Environment Agency could be both bureaucratic and prone to error. She said:

“Having too many layers and agencies can risk regulatory arbitrage, confusion and excess bureaucracy. More expensive people will be hired and they may waste resources chasing each other and having endless meetings. Consumers, business, the water industry and Parliament will not be quite sure who to hold to account on what. “

Fundamental rethink of current regulatory system needed

Lord Whitty also referred to “two very large elephants in the room ... some massive things” which were not included in the Bill – firstly, the “bizarre” financial structure of the industry and secondly, the management and regulation of the physical water system.

He also called for “a pretty fundamental rethink” of the current regulatory system and a more radical approach by the Government which needed to look at whether there were stronger measures which could ensure that the companies actually delivered- including addressing fundamental issues like the proper and full separation of the wholesale from the retail market.

Labour to press for national affordability scheme

Lord Whitty also raised the issue of affordability, saying that all the current schemes together, including the WaterSure scheme, only covered 70,000 or 80,000 people in total – yet about 2 million were having problems with affordability. He said:

“Since the companies appear to be so recalcitrant in coming forward, we will be pressing for a stronger move towards social tariffs and for some form of national affordability scheme to be introduced, to set targets for minimum standards and for the way in which companies treat their less well-off consumers.”

Baroness Kennedy concurred, saying that that the current approach to keeping water affordable for all was failing – illustrated by industry figures which showed that 23% of households in England and Wales spend more than 3% of their income on water and sewerage bills, with 11% spending more than 5% of their income.  Describing the voluntary nature of the establishment of social tariffs by water companies as inept, she called for the Bill should strengthen Ofwat’s powers to deal with the impact and the problem of water affordability. Commenting on the Prime Minister’s statement that there would be action on rising water bills, the peer added:

“..a two-page letter from the Secretary of State to chief executives of the water companies asking them to be “fully alive to concerns” is not action. As we have seen with social tariff schemes and the promotion of WaterSure, voluntary requests for action do not work…. It is time to require the water companies to act on water affordability and bad debt.”

More leadership needed on metering

On metering, Liberal Democrat Baroness Parminter said the Bill should reflect the need for leadership on metering to help tackle the demand for water – the Liberal Democrats would be tabling an amendment to the Bill to remove the current restriction on water companies consulting customers about introducing compulsory meters unless the Secretary of State had determined that either the whole or part of the area of the company was one of serious water stress. The measure would “ send a strong signal to water companies about moving towards universal metering.”

More action needed on flood risk and flood insurance

A succession of peers from all parties expressed concern about the need for more action to address flood risk management and the provision of adequate flood insurance for vulnerable households.

Earl Cathcart made some interesting points with regard to flood risk and planning, saying that Government figures showing that where the Environment Agency objected to a development on the grounds of flood risk, 97% were refused by planners, the Agency only looked at 6.6% of 455,000 planning applications, which seemed “worryingly low.”

Lord Sheikh described flooding as a rising risk and the greatest national threat that the UK now faces. In recent years, the increased risk had been reflected in the number and cost of major flood events that property insurers covered.  He compared  two flood events in the 1990s with a claim cost of more than £150 million for insurers, with the first decade of this century, when there were five such events, including the 2007 floods, which cost insurers £3 billion and the 2012 floods which cost approximately £600 million.

Lord Borwickwanted to know whether the Government recognised the concern at the reduction in flood defence resources imposed on the Environment Agency and the greatly reduced funding by Dafra following downgrading of this element from the department’s list of priorities.

UK water sector R & D capability poor

Lord Selbourne raised the issue of the Bill’s declared aim of  promoting  innovation, saying that the UK water industry research and development capacity was now “very much reduced” from its capacity of some 20 years ago. It was important to retain a national capacity in itss research base and the Government must recognise that publicly funded research was a key component for the long-term delivery of the water agenda.

 Lord Oxburgh called for the introduction of a high-level, long-term national water strategy and flagged up the UK water sector’s poor record on R&D, compared with other countries whose investment in water R&D had given them major positions in the international water industry. He commented:

“We have had a regulatory regime imposed by Ofwat that made significant investment in long-term fundamental research virtually pointless, and indeed impossible. I understand that Ofwat has now changed its policy, but there is a lot of ground to make up. …….the UK water companies tend to be seen simply as reliable and steady sources of income rather than as companies that should explore new technology that might lower costs, let alone earn from their R&D.”

He referred to reverse osmosis membrane technology as one example of useful and applied research where the UK has little or no presence, meaning that “we are simply going to be followers.”

Lord Oxburgh said the relatively small R&D capacity of UK water companies meant that many did not have the competence in-house to be an intelligent customer for new technology and, as a consequence, tended not to use or exploit new technologies. This meant that they would not be able to achieve the efficiencies and consumer price reductions that were urgently needed.

Expanding Ofwat duties could increase political involvement in its activities

Lord Redesdale expessed concern about  the desire of both the Government and the Opposition to add additional duties to Ofwat’s remit, commenting that the sectoral regulators exist to perform specific functions that are generally economically focused. He explained:

“Economic regulation works best when the focus of the regulator is narrow and targeted: to protect consumers and to ensure that investors can earn a fair return from an efficient company. To introduce a new primary duty around resilience, or, as we have heard proposed, to elevate the sustainable duty to a primary duty, could suggest that the Government wish to water down those core functions….. My concern is that the new duties and greater role for the Secretary of State will inevitably increase the level of political involvement in the activities of the regulator and will water down Ofwat’s focus on protecting customers.”

Lord Borwick said that at Committee stage the Lords would like to examine Ofwat’s powers with a view to providing it with a greater range of criteria to trigger a reopening of the current five-year price reviews, enabling the regulator to require water companies to reduce prices for customers. Ofwat needed to become more of a powerful consumer champion that stands up to the water industry, rather than being just a regulatory body.

Not-for-profit Wesh Water should serve as model for UK water sector

Commenting on financing issues, Viscount Hanworth flagged up Welsh Water as an “outstanding example of what can be achieved by the appropriate governance of a water company.” The peer said that the performance of the not-for-profit company had  been outstanding, with  surpluses invested in the network and used to augment the company’s financial reserves. Shares had not been issued but the ratio of the company’s debts to its total asset value had fallen from 93% to 65%, giving it the best credit rating in the entire UK utilities sector. He decribed this as “a model of responsible ownership and governance that could be replicated throughout the water industry.”

Need for national policy statement for water to be kept under review

Summing up at the end of the debate, Lord De Mauley sought to reassure the peers over some of the issues raised. However, on the subject of retail exit when the new market for competition opens in 2017, he reiterated the Government’s current view that  the water companies must continue to be responsible for all parts of the supply chain. If retail exit was allowed, he said householders could be left “stranded with a water company with little incentive in investing in customer service once it had washed its hands of its business customers.”  It was not something that had been completely ruled out for the future, but at present the risks of retail exit outweighed the potential benefits.

On social tariffs, Lord de Mauley said that the vast majority of companies expected to have a new social tariff in place by April 2015. The idea of legislating for a national social tariff overlooked the regional nature of the water industry and a national scheme would be “a very blunt instrument.”

He also said that the Government were continuing to keep the need for a national policy statement for water under review.

Despite the wide-ranging criticisms, Lord Whitty said that the Opposition would not fundamentally oppose the main elements of the Bill.

The next step in the Bill’s progress through the Lords is the Committee stage, when the peers will undertake a line by line examination of the Bill, which is scheduled for the 4, 6 and 11 February.