Schedule 4 - Licensing of water suppliers

Water Bill [Lords] – in a Public Bill Committee at 2:30 pm on 16 October 2003.

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Photo of Bill Wiggin Bill Wiggin Shadow Minister (Environment, Food and Rural Affairs) 2:30, 16 October 2003

I beg to move amendment No. 123, in

schedule 4, page 143, leave out lines 27 to 30.

Photo of Sir David Amess Sir David Amess Conservative, Southend West

With this it will be convenient to discuss the following:

Amendment No. 248, in

schedule 4, page 143, leave out lines 27 and 28.

Amendment No. 124, in

schedule 4, page 145, leave out lines 17 to 34.

Amendment No. 125, in

schedule 4, page 145, leave out lines 39 to 42.

Amendment No. 249, in

schedule 4, page 146, line 42, at end insert—

'(2A) For the purpose of calculating the threshold requirement in subsection (2) above, supply to household premises may be aggregated in circumstances where the households share their facilities for the supply of the water.'.

Photo of Bill Wiggin Bill Wiggin Shadow Minister (Environment, Food and Rural Affairs)

I am grateful to you, Mr. Amess, for taking your time, though not as grateful as I would have been had you taken a moment or two longer. We have tried to clarify one or two points in schedule 4, rather than change it significantly. [Interruption.] I shall find my amendment paper in a moment.

Photo of Norman Baker Norman Baker Liberal Democrat, Lewes

If I speak for 30 seconds, I shall be doing the hon. Gentleman a considerable favour, because by that time he will have found his place in the notes. He can return the favour to me next time I come into the Committee Room and am rather out of breath.

Photo of Bill Wiggin Bill Wiggin Shadow Minister (Environment, Food and Rural Affairs)

I am more than grateful to the Liberal Democrat spokesman. He was absolutely right. The purpose of the amendment is to find out why home owners are, to some extent, being persecuted—perhaps that is too strong a word—by the way that the Bill is structured. We are seeking to find out who the licensed water suppliers are. At the moment, it is far from clear what sort of institution could become a licensed water supplier. For example, a hospital is not a residential home—it does not have anyone living in it—but it could run a licensed water supply as a business, perhaps even at a loss as an offset against tax. Other big companies could perhaps do that also. The amendment is designed to tease out who the Government envisage a licensed water supplier will be and who it will not be. I hope that the Minister can clarify that definition.

Photo of Andrew Lansley Andrew Lansley Shadow Secretary of State for Health

You will observe, Mr. Amess, that amendments Nos. 248 and 249 appear in my name. It may be helpful to the Committee if I explain why I tabled amendment No. 248 as, on the face of it, it appears merely to be a subset of amendment No. 123, moved a moment ago by my hon. Friend. As he made clear, that amendment was tabled to enable the Committee to explore some issues, but in practice it would have the effect, on the licensing of additional water suppliers, of removing both the requirement that premises are not household premises and the threshold requirement. In effect, one might say that there would no longer be a threshold requirement.

I am sure that, as I do not think that my hon. Friend intended his drafting to be complete, he recognises that if one wanted there to be no threshold requirement, new section 17D relating to the threshold requirement to be inserted into the Water Industry Act 1991, which begins on page 145 later in the schedule, would need to be removed. My two amendments therefore go a little further and are intended to permit competition of water supply to be extended to the household sector. It is not a question of definition, but of how much competition there is and where it should go.

It seems clear to us all that the idea of permitting competition in supply to individual household premises would be a step too far and, given the relatively low cost of water as opposed to the cost of providing the network, it would not attract water suppliers. However, if supplying large water consumers in industrial premises is attractive, there is no reason why a set of aggregated premises could not be part of the competitive market. The issue is about bringing together a sufficient volume of demand to justify the supplier's intervention to sell to the market, and that would require groups of premises to come together.

We have examined that idea in other contexts. In the case of gas supply, a provision enables new settlements to contract other than with the Transco network, which is almost the monopoly supplier of the network for other purposes, when a new infrastructure exists for them to enter the market place. That has happened in one or two areas, including my constituency.

The question is whether competition should be introduced if premises can be aggregated to meet the threshold requirement for water. No doubt we will debate what that threshold should be separately, and I am not trying to interfere with that now. If household premises aggregate their demand, for example in a new settlement or in an area with premises supplied with a discrete water supply, why not make it available for competition in the same way as industrial premises? The only substantive difference would be the need to install charging mechanisms, but if the premises are metered, that should not present an insuperable problem.

Amendments Nos. 248 and 249 would remove the requirement for household premises so that they were not precluded from entering the competitive market. Amendment No. 249 would clarify that the threshold

requirement is what really matters, and that the market should exist for the supply of relatively large amounts of water rather than small amounts to individual, household premises. The amendments would also offer the industry the opportunity to create a competitive market in the household sector.

Photo of Elliot Morley Elliot Morley Minister of State (Environment and Agri-Environment), Department for Environment, Food and Rural Affairs

The amendments concern thresholds and the eligibility of those who could benefit from competition, and the hon. Member for South Cambridgeshire (Mr. Lansley) asked who could be suppliers. The answer is companies that meet the requirements laid down by the regulations, and we will consult on the detail of that. The companies must also have customers who use more than 50 megalitres a week. He is right to say that that applies not only to companies, but to large public bodies such as hospitals, prisons and large departments. In total, around 2,300 customers would fall into that category.

The threshold was set after considerable discussion and consultation. Although we accept that there may be advantages to customers from competition, we do not believe that a complete free-for-all or liberalisation of the market is necessarily in the interests of consumers. It may have detrimental effects on both prices and supply.

That was the difference between the Government and those, including the right hon. Member for Wokingham (Mr. Redwood), who argued on Second Reading for unrestrained competition. There might be negative aspects to that. We have approached this in a pragmatic, cautious way. Setting the threshold at 50 megalitres brings in a considerable number of potential customers—2,300—but it does not completely distort the market with potential negative effects such as stranding assets. That enables us to evaluate the effect of the competition.

We have already given a commitment that we will look at the effects of the competition after three years and consider extending it if it has been successful. We would consider extending it to the domestic sector if it was felt that that would be in consumers' interests. Allowing domestic consumers to come together to get over the 50-megalitre threshold is such a complex way of doing it. One might as well simply include domestic users rather than have the complication of them coming together. That would be hard to administer; effectively one would have no threshold.

Photo of Andrew Lansley Andrew Lansley Shadow Secretary of State for Health

Can the Minister address his mind to the point relating to new settlements? I do not have the reference, but one of the changes introduced in legislation on the gas industry was a regulation designed to allow new settlements to choose from whom they took their gas supply. That is rather a special case. Is there not a case here for considering that in the first instance as a means of seeing how the mechanics of household domestic water supply by new suppliers might be introduced into what is otherwise a monopoly?

Photo of Elliot Morley Elliot Morley Minister of State (Environment and Agri-Environment), Department for Environment, Food and Rural Affairs

That is an interesting point. Gas and electricity supply are different because they have been

set up in a way that allows open competition. It is not quite the same with water at present. However, for new developments, competitors may seek to serve any greenfield site under inset appointment arrangements. There is an element of competition in greenfield sites. It is not quite the same system as that which applies to the gas supply but the potential for competition is there.

We want to protect the interests of consumers, both large and small. Competition may have beneficial effects in the supply of water but water is an important utility, and we do not want to jeopardise the effects on consumers. We have already talked about vulnerable groups, costs, prices and things like that. Sometimes competition can have negative as well as positive effects. We should therefore take a cautious and balanced approach.

Photo of Bill Wiggin Bill Wiggin Shadow Minister (Environment, Food and Rural Affairs)

I accept what the Minister says about having the best interests of the consumer at heart, but he has put his finger on a danger. If one starts with the biggest consumers, there is a danger that one can take out quite a solid income stream by allowing the large consumers to buy discounted water. It makes it harder to push the benefits down the pyramid to the household consumers because one has removed a large quality income flow from the whole industry. Although I agree with what the Minister intends to do, I think that he has started this the wrong way round.

Photo of Elliot Morley Elliot Morley Minister of State (Environment and Agri-Environment), Department for Environment, Food and Rural Affairs 2:45, 16 October 2003

I would disagree. We have started this the right way round. There is indeed an issue that the hon. Gentleman has mentioned. There can be a consequence if a company begins to lose big customers to competitors. The whole idea is that companies will strive to be efficient in delivering their service. The threshold has been set at 50 megalitres because we believe that 2,300 potential customers is sufficient to attract new competitors, but is not a great enough number to have the distorting effect mentioned earlier. It strikes a cautious balance, which will allow us to get some experience of competition in the water sector. We will review the situation in three years, and there is the potential to extend it if it is a success. However, if there are problems, we will not cause catastrophic consequences by going too far too fast.

Photo of Ms Sue Doughty Ms Sue Doughty Liberal Democrat, Guildford

I have been following the argument with interest, and sympathise with some of the views put forward. What if this is not a success? What would happen if a company changed its supplier to one that was more competitive but found that the arrangement did not work? If that company was not happy with the supplier because, for example, the supply was intermittent or there were shortages of water, would the proposed three-year review suggest any way back from that situation?

Photo of Elliot Morley Elliot Morley Minister of State (Environment and Agri-Environment), Department for Environment, Food and Rural Affairs

I think that there would be a way back. In the electricity and gas industry it is normal for large users to sign contracts, some of which are for a fixed term. At the end of the fixed term customers are able to review the deal, so it is possible to change the situation, although the disruption of the relationships entered into by the large user must be taken into account.

Photo of Paddy Tipping Paddy Tipping Labour, Sherwood

It is important both to get some experience and to be cautious about this approach. Must it not be the case that a limited experiment that allows the bigger customers to make some choice will inevitably lead to efficiency and economies right down the chain? I welcome the Government's proposal, but we need to go cautiously. I expect that we will want to extend the experiment after three years, but I would be cautious about extending it into the domestic sector.

Photo of Elliot Morley Elliot Morley Minister of State (Environment and Agri-Environment), Department for Environment, Food and Rural Affairs

My hon. Friend is absolutely right. There is every likelihood that competition will bring about beneficial effects, as competition often does. However, I reiterate that it can sometimes have negative effects. Proceeding in this way allows us to examine progress cautiously, and in three years we can evaluate the pros and cons of the situation.

Photo of Brian Iddon Brian Iddon Labour, Bolton South East

Further to that point, will the Minister bear in mind what has happened to research in the electricity and gas supply industries? Competition has driven prices down to such an extent that research will no longer be possible on the scale that it was previously. I was at Loughborough university last week, where I saw a very large building in which British Gas used to do all its research. Except for one small corner, that building is now empty.

Photo of Elliot Morley Elliot Morley Minister of State (Environment and Agri-Environment), Department for Environment, Food and Rural Affairs

My hon. Friend demonstrates one of the potential negatives, but it is a matter for speculation as to whether we will see that outcome. We have the opportunity to see how this measure works and, if it is successful, there is the opportunity to extend it.

Photo of Mr Simon Thomas Mr Simon Thomas Plaid Cymru, Ceredigion

I seek clarification from the Minister on that point. I understand from the Bill that, in future, the threshold could be lowered by means of a statutory instrument. Would further primary legislation be needed to introduce competition into the household sector? If so, will the Minister comment on what the Government's approach to any future legislation would be?

It would be relevant to our current scrutiny to know whether the extension of the scheme to the household sector is a serious option. We must also bear it in mind that we are discussing the delivery of potable water only. The water industry is much bigger than that; it includes sewerage and infrastructure investment. We must therefore take into account the dangers for the entire water industry of extending competition to the household sector.

Photo of Elliot Morley Elliot Morley Minister of State (Environment and Agri-Environment), Department for Environment, Food and Rural Affairs

I am sure that many large companies can provide their own sewerage infrastructure now; there is no restriction on that. I can confirm that if we wish to extend competition in the water industry to the domestic sector, primary legislation will be needed. The matter would therefore have to return to the House, so that there could be proper scrutiny and the House could have the opportunity to weigh up the pros and cons. The position that we have taken in the Bill is perfectly reasonable, and on that basis I hope that the hon. Member for Leominster (Mr. Wiggin) will withdraw the amendment.

Photo of Bill Wiggin Bill Wiggin Shadow Minister (Environment, Food and Rural Affairs)

There are several misunderstandings, which I shall seek to clarify. First, if we can agree that competition is successful at any stage, we can fulfil the desire that we share to allow small consumers, including households, to have cheaper water.

Amendment No. 123 would remove the need for the word ''household'' to be in the Bill. That would mean that we did not need primary legislation, particularly if amendments Nos. 124 and 125 were also taken on board. Amendment No. 125 really tackles the issue of the large customers—the 2,300 over-50 megalitre customers to whom the Minister referred earlier. The danger is that they will not be a pilot scheme for the concept because they are not all in the same area and they are not similar companies. Without doubt, they will all say that the scheme is successful, because they will be having cheaper water, but that will not necessarily have the positive impact that the Minister is looking for in this experiment. Although he is right to be cautious, he is being cautious at the wrong end of the market.

Photo of Andrew Lansley Andrew Lansley Shadow Secretary of State for Health

Does my hon. Friend agree that, even though the Minister seeks to be cautious, he clearly shows a willingness to consider extending competition to large non-domestic consumers of water? However, he is not willing to consider in the same way the extension of competition to the domestic sector, even though he told us that he was. Leaving in the Bill the prohibition on competition in the domestic sector is a substantial constraint, regardless of what the review might say in three years.

Photo of Bill Wiggin Bill Wiggin Shadow Minister (Environment, Food and Rural Affairs)

I agree. My hon. Friend's amendment No. 248 was also designed to do what I have described, for which I am extremely grateful, because we should be paving the way for cheaper water for domestic consumers. There has been a huge amount of debate about disadvantaged and vulnerable groups, and those are the people who would benefit from cheaper water—

Photo of Bill Wiggin Bill Wiggin Shadow Minister (Environment, Food and Rural Affairs)

Yet in a bizarre volte-face, the Government have done everything that they can to preclude those people. I accept the Minister's caution, and I am not saying that we must proceed with all customers at once. There is nothing preventing the Government from proceeding with pilot schemes and doing different things in different areas. By its very nature, the supply of water falls tidily into that type of pilot scheme, because one cannot have Scottish water in London; it just does not get here. It would therefore be a much easier material with which to experiment, if that is what the Minister sought to do.

The Government's method works against smaller customers and vulnerable groups. Although I agree that the Minister is right to be careful, that is not the right way to proceed. The hon. Member for Ceredigion (Mr. Thomas) mentioned that electricity and gas prices had been driven down. I should imagine that that is a welcome change of events, particularly for vulnerable groups.

Photo of Mr Simon Thomas Mr Simon Thomas Plaid Cymru, Ceredigion

The hon. Gentleman seems to suggest that the introduction of competition into the household sector would be good for vulnerable

groups. Will he reflect that it is the vulnerable groups who pay most for their gas and electricity, because they cannot have direct debit or their credit history is so bad that they do not get the best deal from the privatised electricity and gas companies? In dealing with water, which is essential to life, we should perhaps take a much more cautious approach than the hon. Gentleman seems to advocate.

Photo of Bill Wiggin Bill Wiggin Shadow Minister (Environment, Food and Rural Affairs)

That was an extraordinary intervention, but I am always grateful for that sort. One cannot complain that people on the lowest incomes are being penalised for having cheaper gas and electricity if in fact they are being penalised because they are not paying by direct debit or because of their credit history. That is what they are being penalised for, not the cheaper prices of the underlying commodity. The hon. Gentleman is right to worry about those groups, but certainly not in the way that he suggests.

This part of the Bill is important because it shows the Government's fundamental misunderstanding of competition. They are trying to do the right thing in the wrong way; it is not the first time that they have done so and, sad to say, I doubt if it will be the last. Saddest of all, it will fail the people who they most want to look after in other parts of the Bill. The Minister has tried to be cautious and careful, and I appreciate what he said, but he is starting at the wrong end of the market.

Photo of Elliot Morley Elliot Morley Minister of State (Environment and Agri-Environment), Department for Environment, Food and Rural Affairs

I have outlined the Government's view on the matter. As a general principle, I love clauses that give Ministers the power to vary things as they see fit. I am all for the proposal, which has a certain attraction, but in this case extending competition to domestic consumers is a fundamental step, and it is not unreasonable that it should have to come back to the House. Technically, it would not have to be a very complicated measure—it would be an amendment to the Act—and it would give the whole House the opportunity to discuss its pros and cons. Competition can be good; it can bring benefits but also negatives. Our approach should be balanced and cautious.

Photo of Bill Wiggin Bill Wiggin Shadow Minister (Environment, Food and Rural Affairs)

I cannot agree with the Minister. There will not be a happy ending to the matter because although we are approaching the same ending, we come from such radically different places that it will be difficult to get anyone to agree on the conclusion. In the long term, the sadness is that the measure will delay the supply of cheaper, clean, fresh water to vulnerable groups and to domestic consumers, which is a shame. It is probably industrial users who can best afford to improve the volume of water that they use, therefore the 2,300 consumers to whom the Minister gives preferential treatment are probably those who are best equipped to cut their demand for water, if they need to. They probably find it considerably easier to pay their bills than some of the people that the hon. Member for Ceredigion mentioned.

This is too important an issue to divide the Committee, as we may need to return to it on Report. It is fundamental to the nature of the Bill

and Government's set up for the larger consumers. I beg to ask leave to withdraw the amendment.

Amendment, by leave, withdrawn.

Photo of Bill Wiggin Bill Wiggin Shadow Minister (Environment, Food and Rural Affairs)

I beg to move amendment No. 126, in

schedule 4, page 148, leave out lines 24 and 25.

Photo of Sir David Amess Sir David Amess Conservative, Southend West

With this it will be convenient to discuss the following:

Amendment No. 127, in

schedule 4, page 148, line 25, leave out

'paid into the Consolidated Fund'

and insert 'minimal'.

Photo of Bill Wiggin Bill Wiggin Shadow Minister (Environment, Food and Rural Affairs)

This is a much smaller, and less contentious, amendment to new section 17F(8). I want to know what the Government are going to do with the money that they receive. Do we take the Consolidated Fund to be the Treasury? Is there a better use for the money, and would the proposal be better with amendment No. 127, by which

''sums received by the Secretary of State or the Authority by virtue of the section'',

which is one of the licensing sections, would be a minimal amount? Let us not try to make huge amounts of money out of the granting of licences, unless the Minister has a particularly worthy end use for it, in which case now would be a good time for him to let us know what it is.

Photo of Elliot Morley Elliot Morley Minister of State (Environment and Agri-Environment), Department for Environment, Food and Rural Affairs

I can reassure the hon. Gentleman. The arrangements for funding the authority will be exactly the same as those currently in place for Ofwat.

It is true that sums received under the conditions of water companies' appointments will be paid into the Consolidated Fund. However, Ofwat receives a matching amount from central funds so, in effect, the money goes back to the water industry.

The fees are set at a level that allows Ofwat to recover its costs of regulating the industry. The idea is to set the licence fees at a level that will meet the costs of the regulation, and the alternative would be that someone else had to pick up the costs of processing the applications. The level of water supply licence application fees will be prescribed in regulations laid before Parliament, and we would expect them simply to cover the costs involved in the collection and no more.

Photo of Bill Wiggin Bill Wiggin Shadow Minister (Environment, Food and Rural Affairs) 3:00, 16 October 2003

The Minister's answer reassured me, apart from on one point. The Secretary of State will set the greatest part of Ofwat's costs—the salaries—and that will create a vicious circle, as the money levied in the licence will be determined, in effect, by the Secretary of State. That is why I would be more comfortable if the Bill said that the amount should be minimal and that all steps should be taken to ensure prudence; I believe that that is the current term for trying to save money. I hope that the Minister will consider that, although I accept that he will not adopt it at this stage. I beg to ask leave to withdraw the amendment.

Amendment, by leave, withdrawn.

Amendments made: No. 291, in

schedule 4, page 159, line 48, leave out 'and' and insert 'or'.

No. 292, in

schedule 4, page 162, line 43, leave out 'and' and insert 'or'.

No. 265, in

schedule 4, page 164, line 34, leave out 'Office of Fair Trading' and insert 'OFT'.

No. 293, in

schedule 4, page 169, line 30, after 'primary', insert 'water'.

No. 294, in

schedule 4, page 170, line 1, after 'primary', insert 'water'.

No. 295, in

schedule 4, page 170, line 8, after 'primary', insert 'water'.

No. 296, in

schedule 4, page 170, line 11, after 'primary', insert 'water'.

No. 266, in

schedule 4, page 172, line 4, leave out 'Office of Fair Trading' and insert 'OFT'.—[Mr. Morley.]

Photo of Andrew Lansley Andrew Lansley Shadow Secretary of State for Health

I beg to move amendment No. 250, in

schedule 4, page 172, line 25, leave out from 'expenses' to end of line 26.

Photo of Sir David Amess Sir David Amess Conservative, Southend West

With this it will be convenient to discuss the following amendments:

No. 251, in

schedule 4, page 172, line 35, leave out from 'which' to end of line 39 and inset 'is calculated to represent—

(a) the qualifying expenses, less any avoidable expenses, and a reasonable return on the funds employed in meeting the qualifying expenses, or

(b) the amount which the water undertaker reasonably expected to recover from relevant customers reduced by the proportion of that amount which reflects avoidable expenses and the return attributable to those expenses.'.

No. 252, in

schedule 4, page 172, line 39, at end insert—

'(3A) The Authority may, in determining the appropriate amount for the purposes of subsection (1) above, take account of the benefits to consumers of determining an amount which promotes competition in the wholesale supply of water by secondary water undertakings.'.

Photo of Andrew Lansley Andrew Lansley Shadow Secretary of State for Health

We are moving further into schedule 4. New section 66D covers the agreements reached and determinations made by the authority for the relationship between the new licensed water suppliers and the water undertakers providing the network that the suppliers will use. New subsection (3) provides that the determinations made in relation to those agreements should be

''fixed in accordance with the costs principle set out in section 66E''.

I was interested in the idea of primary legislation setting out a cost principle to determine in advance the access pricing regime for new entrants to the market. I have not previously come across anything like that, so I thought that we should explore it. I have tabled some amendments that I hope will explain the nature of my questions, although I am not sure whether even I would be comfortable with substituting my amendments for what is in the legislation. I am more interested in finding out what is intended and, if my argument has merit, in encouraging the Government to think carefully about whether they want to prescribe the cost principle in such detail.

I will put on my anorak for these amendments; there are a few people in Parliament who do regulatory policy in detail, and I am one of them. Over the summer, I had occasion to read two documents, which I will use as an indication of the argument that we have to encounter. One document was Oftel's review of the wholesale broadband access market, and the other was Postcomm's notice of a proposed direction to Royal Mail on downstream access by UK mail into the Royal Mail's postal facilities. They were published in April and May of this year respectively, but the Committee will be pleased to know that I do not intend to discuss their merits in detail.

The point is that each document is a mechanism by which each regulator has tried to determine the access pricing regime for new entrants to what is in effect a monopoly service. It is interesting that they approach such matters in different ways.

Oftel considers two options. One is cost-based and examines the long-run incremental cost of service provision, plus a rate of return on the capital employed in meeting that cost. It dismissed that in favour of what it describes as a retail-minus approach. That is the retail price that BT charges for its wholesale supply, less what might be construed as, in a term of art, avoidable expenses; those costs that could be avoided by not having to supply the service to customers to the extent that new entrants come into the market. Even having taken that path, which is the one that it recommends, there are two ways of looking at what costs should be offset against the BT retail price.

One is to do so by reference to BT's actual costs; the other is to do so by reference to the costs of an efficient new entrant. Oftel does it by reference to BT's actual costs, but it recognises that there is a risk. Oftel does it on the basis of the desire to maintain competitive innovation in the marketplace, and I shall not describe why it chose that route. It recognises that there is a potential problem in that if one incorporates all BT's upstream costs—including not only its variable costs but its fixed costs—into the access charge that is applied, and if at the same time, the variable costs that are omitted from BT's retail price show economies of scale, which may be true of a monopoly of its size, it is entirely possible that even a new and efficient entrant would not only have to provide variable costs and may be able to discount some variable costs by greater efficiency, but would incur the fixed costs associated with a new entrant. However, BT would have all its fixed costs met and would not have to apply them to new customers. In effect, a margin squeeze would occur. The new entrant would not be able to deliver the margin because BT would be able to undermine its position by being able to cost a fee at a marginal price below what any new and efficient entrant could do. Let us park that for a moment.

It is interesting—considering what I accept is a different set of circumstances—that Postcomm considered the retail-minus and cost-plus approaches, and opted for cost-plus. It took a different approach to Oftel, on the basis that the risk that I have just described in relation to BT would occur. If there were to be new entrants trying to enter the postal services

market, and all the upstream fixed costs of Royal Mail would be added to the access charge, it would make it intensely difficult for any new entrant to realise an efficient margin.

I have described those two approaches because there are a number of options for access pricing depending on the nature of the market being created and the nature of the monopoly service that is being required to offer access. Those could be described as the two basic propositions; the one is retail-minus and the other is cost-plus. Even within the retail-minus option there are at least two—perhaps more—ways of calculating it.

It is interesting that when one looks at the cost principle as set out in proposed new section 66E of the Water Industry Act, one sees that the Government appear to have decided in advance how the access pricing will work, before we have examined the options. The Government have said that the measure will be retail-minus on the basis that the only costs to be offset against the retail price—the retail element being the appropriate amount that the water undertaker reasonably expected to recover from relevant customers—are avoidable expenses. None of the profit element of those avoidable expenses or the water undertakers' upstream fixed costs will be offset against the retail price. It seems that the cost principle is designed to minimise the extent to which new entrants can enter the market.

I understand from other material that new entrants to the market have to operate within what might be only 3 or 4 per cent. of the cost of providing the service to a premises. The fixed costs will all be loaded into the access price and the poor new entrant to the market place will have to meet their fixed costs in that small margin of variable cost, with the existing undertaker able to price at a margin to preclude it. On that basis, the Government are saying that they believe in competition but will legislate to make access pricing impossible for competitors realistically to enter the market and deliver a viable margin.

I am sorry if that was one of those anorak moments.

Photo of Andrew Lansley Andrew Lansley Shadow Secretary of State for Health

We cannot get through a Standing Committee without one or two of those moments.

I do not know of a precedent in competition legislation on the gas or electricity markets, when competition was first introduced, for a cost principle to be set out in such terms or to such a degree of detail. It is deeply unwise to go down that path.

Amendment No. 251 is designed to show that there are two ways of proceeding; 251(a) is about the cost-plus method, and (b) is about the retail-minus method. However, I do not believe that it is necessary to specify them in the Bill; it would be acceptable to specify the cost principle by referring to a literal set of principles. We should try to set out not how the calculation works, but the desirability of allowing new and efficient entrants to enter the market while protecting

the upstream variable costs of the existing undertaking. The extent to which incremental costs are associated with providing the service to the new licensed water supplier should also be protected. The fixed costs of the existing water undertaker could be jointly met in proportions to be determined by the regulator on the merits of the individual case.

Amendment No. 252 should be considered in its own terms. However, the regulator goes about its task, it should promote competition. The ''appropriate amount'' to be determined does not seem to take into account whether the regulator will permit competition. The authority's objectives in promoting the interests of consumers, where appropriate through competition, may conflict with its understanding of what the access pricing regime should be. The access pricing regime, as drafted in the Bill, seems to allow the authority little flexibility to make judgments on the merits of the case, or on the basis of what could promote competition and benefit consumers. I hope that the Minister will think more positively about amendment No. 252.

I hope that I have explained enough to encourage the Minister to consider removing the proposals in new section 66E and give us something that is designed to allow the merits of cases brought by new entrants to the market to be considered in all reasonable circumstances.

Photo of Elliot Morley Elliot Morley Minister of State (Environment and Agri-Environment), Department for Environment, Food and Rural Affairs 3:15, 16 October 2003

That was an interesting contribution about how the cost principle is applied and I accept that there is a debate about how it should be done. The Bill's approach is that the cost principle is just that; it will be for Ofwat to sort out the detail, although as the hon. Gentleman rightly stated, a clear structure is laid out. It is to everyone's benefit that they understand what is involved.

There is justification for the retail-minus approach, because water has been in regulatory control since 1989. It is not the same for the postal service; the hon. Gentleman accepted that there were differences between water and post, and that is a key difference. It is important to recognise, too, that assets still have to be paid for in the water industry and the undertakers have to recover costs. Our approach is a means to achieve a balance in the unique situation that applies to water, which has universal service obligations. I shall expand on the issue of assets and the impact on other customers in a moment.

Photo of Andrew Lansley Andrew Lansley Shadow Secretary of State for Health

Does the Minister accept that I made it clear that I thought it was perfectly reasonable, in so far as there are upstream fixed costs, for the new entrants to have to contribute to them? That was precisely what he said in relation to the requirement to meet the costs of the industry's assets. However, the Minister is proposing that all those costs should be attributed, including the profit element and the overhead costs, which also have to be met by the new entrant. That is not a rational approach. The Minister is talking about the merits of the argument; in a sense he is making my case. There will be difficult judgments to be made about the proportion of the

fixed costs in particular that should be laid upon new entrants. The Bill states that all of them must be.

Photo of Elliot Morley Elliot Morley Minister of State (Environment and Agri-Environment), Department for Environment, Food and Rural Affairs

That approach is not unreasonable. We do not want to encourage people to compete who do not take a fair share of the infrastructure costs, because that would mean there were more costs on existing customers, who do not benefit from the competition. That is reflected in new section 66C, whereby licensees can enter if they can do things more cheaply than the current undertaker, which puts the onus on them to demonstrate their efficiency. A cost-plus system would allow inefficient entry into the market; there would be less emphasis on the need for efficiency because there would be an element of protection.

What I have said applies to the amendments. Amendment No. 250 would force the undertaker to try to recover the lost return from other customers not benefiting from the competition, which is one of the negative aspects of competition. We do not want prices to increase for consumers as a result of competition. That is why it is done in that way.

Photo of Bill Wiggin Bill Wiggin Shadow Minister (Environment, Food and Rural Affairs)

I am grateful to the Minister and to my hon. Friend the Member for South Cambridgeshire, who gave a clear and helpful description of the pricing mechanism. Will the Minister tell the Committee how much lobbying he had from existing suppliers? There is not a great tremor of terror at the thought of extra competition in the market; people are not worried about new competition because of how the Bill is structured. However, perhaps the Minister will say that there has been a lot of lobbying and that people are terrified.

Photo of Elliot Morley Elliot Morley Minister of State (Environment and Agri-Environment), Department for Environment, Food and Rural Affairs

I have discussions with all the stakeholders involved. It is true that some said that the threshold should be lower because they believed that the competition should be extended. The water companies have expressed some concern about the principle of competition. They are not all absolutely terrified, although that is mainly because we have approached this in a careful and balanced way. That means that we can evaluate this for the benefits of all concerned. That makes the difference.

Photo of Paddy Tipping Paddy Tipping Labour, Sherwood

The threshold is extremely high and the number of businesses that can take advantage of competition is relatively small. Does the Minister believe that there is a competitive marketplace that new entrants can enter? I suspect that not many will.

Photo of Elliot Morley Elliot Morley Minister of State (Environment and Agri-Environment), Department for Environment, Food and Rural Affairs

At this stage that is difficult to predict. Potential new entrants are interested in this provision, but we cannot judge how many until the opportunity is there for them and they can take advantage of the measures in the Bill. We will have to wait to see. That is part of the evaluation.

Amendment No. 251 would have the further effect of allowing an option of an agreement or determination on an access or wholesale price to reflect only the expenses and reasonable return the undertaker incurs in providing access or a wholesale supply to a licensee. That could effectively leave an undertaker's other customers exposed to the full impact of covering all the undertaker's reasonable costs that are no longer recoverable from customers

now served by the licensee. Again, that would adversely affect other customers. We have put in place a costs principle that is crafted as far as possible to protect other customers from those impacts and to recognise the needs of those who are coming in for competition.

Amendment No. 252 would also require the authority, in making a determination in price, to take into account the competition benefit for other customers. The amendment is not necessary because, under the Bill, we have already put in place an objective for the authority in furthering the interests of consumers to promote effective competition where appropriate. We have tempered the obligation by requiring the authority to have regard to the interests of other customers who will not have access to a supply by licensees. We have recognised the point about encouraging competition, but in a proportionate way. We cannot go as far as the hon. Gentleman wants because we are worried about the detrimental consequences that could have to other consumers.

Photo of Andrew Lansley Andrew Lansley Shadow Secretary of State for Health

The Minister's principal concern is that there is effectively cross-subsidisation between the large consumers of water, who are likely to form part of the initial market that he anticipates and other consumers. If one moved away from the retail-minus approach that he recommends—or from any retail-minus approach—towards a cost-based approach, there would be a reduction in the cross-subsidy between different consumers of water. That may be his intention. It is perfectly possible to embrace some of the thoughts that I have put forward without necessarily doing away with that cross-subsidy.

I must caution him. Almost undoubtedly there will be an EC water directive on competition in the water industry. Eventually the resistance of the German Länder Governments will be overcome. The directive will say that there must not be discrimination and that the pricing regime must be based on costs. All of this will begin to be dismantled. It is possible to put into the Bill a structure that can continue to protect that by reflecting a retail-minus approach that is a bit more reasonable than that which is in the costs principle at the moment. He is allowing back to the water undertaker—the monopoly supplier in this case—all of the retail price that that water undertaker expects, minus only the cost that can be reduced or avoided related to the additional new entrants provision. The profit element will be part of that, too.

It will not be just other customers who get the benefit of the costs principle that the Minister is talking about; existing water undertakers will receive the benefit, too. Given the nature of the regulatory regime, it will be possible for the authority to maintain the pricing regime that the water undertaker has for other customers while enabling new entrants to come into the market. If there is a squeeze, it will be on the profit margins of the existing monopoly water undertakers. It does not automatically follow that the presence of new entrants will lead to an increase in prices for other consumers.

I am disappointed that the Minister has not seen sufficient merit in my argument to say that he will at least consider it further, as he should do. If the

regulators get together, as they tend to do, to talk about regulation in different industries, Mr. Fletcher and Ofwat will recognise that the level of prescription in this legislation is undesirable. With any luck, they will begin the process of agitating for legislation that is less prescriptive and better able to offer opportunities for competition. I will not press the amendment; my purpose was to make the argument rather than divide the Committee.

Photo of Elliot Morley Elliot Morley Minister of State (Environment and Agri-Environment), Department for Environment, Food and Rural Affairs

I just want to assure the hon. Gentleman that there is currently no cross-subsidy between domestic and non-domestic sectors. Competition could lead to customers not eligible for competition finding themselves worse off. That is the argument. The hon. Gentleman expressed some detailed arguments. I said that Ofwat would be responsible for the final detail, and I am sure that it could consider some of the issues raised.

Photo of Andrew Lansley Andrew Lansley Shadow Secretary of State for Health

I am grateful to the Minister for that interesting piece of information, which surprised me. He said that there is no cross-subsidy between the domestic and non-domestic sectors, but he did not answer my point, which was about cross-subsidy with industrial consumers and non-domestic consumers of more than 50 megalitres. However, if he is right, there is no reason why one could not incorporate a cost-based solution without detriment to other consumers. In effect, he is making the argument that we could have a cost-based solution.

However, I will leave the point, because otherwise we will start re-circulating our arguments. I am happy that I have explained my argument at least to the point where the Minister understands that something has to be discussed, and perhaps the time will come to discuss it again in the future. I beg to ask leave to withdraw the amendment.

Amendment, by leave, withdrawn.

Amendment made: No. 297, in

schedule 4, page 173, line 28, after 'secondary', insert 'water'.—[Mr. Morley.]

Photo of Bill Wiggin Bill Wiggin Shadow Minister (Environment, Food and Rural Affairs)

I beg to move amendment No. 128, in

schedule 4, page 176, line 24, after 'shall', insert 'deliberately'.

Photo of Sir David Amess Sir David Amess Conservative, Southend West

With this it will be convenient to discuss the following amendment:

No. 129, in

schedule 4, page 177, line 12, after 'shall', insert 'deliberately'.

Photo of Bill Wiggin Bill Wiggin Shadow Minister (Environment, Food and Rural Affairs)

It is essential to take these two amendments together because they would both add the word ''deliberately'' to the Bill. The better example is in amendment No. 129. If the Minister can convince us that it is impossible for a person to introduce water into a water undertaker's system accidentally, the word ''deliberately'' will be superfluous, and I will have no problem with withdrawing the amendment. However, I am not sure that the Minister can do that.

The Bill provides that anyone who introduces water to a water undertaker's supply system will be guilty of a serious offence and, on summary conviction, subject to a fine not exceeding £20,000. The addition of the

word ''deliberately'' will be a necessary safeguard unless we can secure from the Minister a guarantee that no accidents can take place and that anyone who introduces water will automatically be seen to have done it deliberately.

The same is true for a water undertaker's supply system, but the provision in amendment No. 128 is less strong, because the person who is supplying the water has to supply it to a client, and that would be deliberate in itself. Amendment No. 128 is perhaps not quite as crucial, but amendment No. 129 is helpful in seeking to ensure that no one can do something by accident and then face a £20,000 fine.

Photo of Elliot Morley Elliot Morley Minister of State (Environment and Agri-Environment), Department for Environment, Food and Rural Affairs 3:30, 16 October 2003

I find it hard to envisage a circumstance in which it would be possible unintentionally to use an undertaker's water supply. A person would have to be quite deliberate in using the system to supply a customer. It would need the agreement of the undertaker and if they used it without the undertaker's consent, they would be committing the offence of interfering with the undertaker's works, under section 174 of the Water Industry Act 1991, as the hon. Gentleman aptly pointed out. If it is found that an undertaker's supply system was being used in a manner that was prohibited, but not in a way that was considered to require a licence, there is the flexibility in the Bill to make that activity subject to an exception or exemption. As I said, I find it difficult to envisage the particular circumstances, but I hope that that gives the sort of guarantee that the hon. Gentleman sought.

Photo of Bill Wiggin Bill Wiggin Shadow Minister (Environment, Food and Rural Affairs)

I am grateful to the Minister for his comments. This sort of amendment is not particularly weighty, but it is important to ensure that we do not leave any gaps or lines that people could accidentally tread on. I am comforted by the Minister's comments. I can see ways in which the use of an undertaker's supply system might accidentally happen, but if the Bill is sufficiently flexible to prevent someone from being prosecuted for that, I should be happy to beg to ask leave to withdraw the amendment.

Amendment, by leave, withdrawn.

Amendment made: No. 298, in

schedule 4, page 177, line 7, leave out 'section 66J' and insert 'sections 66J and 66L'.—[Mr. Morley.]

Schedule 4, as amended, agreed to.