Commons' inquiry into water pricing

The costs of further improvements to the water environment, customers' ability to pay, and the need to balance tighter environmental controls on the water industry with investment in asset maintenance and controls on diffuse pollution sources were among the main issues in the initial sessions of the House of Commons Environment Committee's inquiry into water prices.

The inquiry began as the price review for the industry's fourth asset management programme, AMP4, for 2005-10 got under way. The Environment Agency and Ofwat each produced reviews of water companies' draft business plans in November (see pp 14-15 ) and the Agency also issued a commentary on companies' water resources plans (see pp 13-14 ). Draft price limits will be set by Ofwat next July and finalised after consultation in November.

Key issues considered by the Environment Committee included:

  • Adequacy of the review process: Water UK told the Committee that the price review "does not provide an effective mechanism for dealing with issues that are either long term or require co-ordination with other agencies." This is now a familiar refrain by the industry, which wants to see the Environment Department take a stronger lead in controlling the review.

    The Environment Agency's chief executive, Baroness Young, disagreed, calling the review process "the least worst of all options we have looked at." The process had a clear timetable, set clear responsibilities and was reasonably transparent, so could not be regarded as "completely broken".

    She also believed that the EU water framework Directive would require a much more long-term approach to environmental objectives which would be useful for water companies.

    Ofwat director general Philip Fletcher agreed that the current process was the "least worst system". One obvious improvement would be to run it for a longer period - but he felt it would be difficult to make it much longer than five years because demands on the industry were being formulated on quite short timescales.

    Mr Fletcher also noted that the regulatory system included "safety valves" such as interim price determinations and "logging up" to allow companies to accommodate unforeseen changes in investment requirements.

    However, the Agency has expressed concern over the logging up procedures, under which companies have to bear the cost of additional investment until they are reimbursed at the next price review.

    "There is quite a big chunk of the programme this time around for the habitats regulations where we will not be able to give the companies sufficient clarity until quite late on towards the [price] determination," Baroness Young said.

    The Agency wants companies to complete their investigations into the works required and, as soon as these are clear, to press on with the necessary investments so as to meet the 2010 deadline for restoring aquatic habitats.

    However, this is likely to mean substantial logging up of investment, and the Agency has noted that companies believe the procedure often leaves them out of pocket.

  • Costs: The Committee was critical of an Agency glossy publication, A good deal for water, which summarised its views of the costs and benefits of its preferred environmental programme for AMP4. The document lacked "any kind of detailed economic analysis", according to Michael Jack (Con, Fylde).

    However, head of water quality Andrew Skinner explained that the Agency had in fact submitted 110 pages of analysis to the Secretary of State. The conclusion was that the cost of the programme for 2005-2010 would be an average of 50p per household per week - the cost of a can of fizzy drink.

    This was equivalent to £26 per household per year and would raise some £4.5 billion. However, Baroness Young explained that the programme had already been refined and reduced to £3.5 billion. Of this, some £0.75 billion comprised discretionary improvements, and the Secretary of State would have choices to make about whether these should be included.

    "Now that we have the programme headed down the way towards £3.5 billion [the cost per household] is probably under 40p," Baroness Young said. "So it is still a fizzy drink, but it is Tesco's own brand rather than a diet coke."

    Mr Skinner highlighted United Utilities and Southern Water's own preferred environmental programmes as containing questionable proposals. In United's case, the programme included measures to improve shellfish waters which the Agency did not believe were essential. And the Agency has urged Ofwat to pay particular care in reviewing the companies' costings.

    United's chief executive John Roberts told the inquiry that about two-thirds of the company's proposed £3.8 billion investment programme - by far the largest of any in the present review - was "to create new assets to make further improvements to meet environmental standards."

    It was a reflection, he said, of the need to protect the coastline, the presence of heavy industry and a legacy of Victorian sewers in Manchester and Liverpool which were in need of improvement. The company is proposing price increases of 71% in real terms over the five years, bringing its average water and sewerage bill to £416 - the highest in the country (ENDS Report 344, p 11-13 ).

    Without the AMP4 environment programme, Baroness Young told the Committee, meeting the requirements of the water framework Directive in 2010 would "look like a mountain which is very hard to climb. I think we have got to keep moving though the programmes we have identified....It would be a bit short-sighted...if we were to pitch the bills only at a levels that could be afforded by the poorest household."

  • Customers' willingness to pay: Austin Mitchell (Lab, Grimsby) accused the Agency of "blithely assuming" that customers would not mind paying extra for improvements to beaches, sewage treatment and rivers. Customers distrusted EU Directives, the Government, the water industry and its regulators, and he feared some kind of customer reaction.

    Baroness Young responded that opinion polls suggested that the Agency was the most trusted of any among the "line-up of villains" mentioned. Research conducted jointly with Ofwat, English Nature and the Government "is not saying that the customers are not prepared to pay for environmental improvement," she maintained. "Customers are interested in environmental improvements."

    However, she did take a swipe at Ofwat's pricing policy which has led to a roller-coaster ride for customers with prices going up and down from one review period to the next. "Five years ago...we were constantly saying that a big price reduction was simply going to store up trouble, and here it is; it is happening now." It would have been easier to present to customers, she maintained, if prices had remained more steady.

  • Asset maintenance: Water UK's chief executive Pamela Taylor told the Committee that price cuts imposed in the last review in 1999 had led to reduced investment in asset maintenance. "Most independent commentators would be prepared to say that last time around the amount of money the industry was allowed to spend on maintaining the infrastructure was squeezed and squeezed too far."

    The result was that the industry had a "programme of firefighting" rather than a programme of improved asset maintenance. Colin Skellett, Wessex Water's chief executive, agreed: "There has been under-investment in asset maintenance for many years. The last five years made it worse."

    And in a criticism of Ofwat, he added: "Had we set stable prices [in the last review], we could have started the asset improvement work earlier."

    "What has happened over the last ten years is that the focus has been on meeting the higher standards. We have got to get the focus back to assets." Replacing only 0.6% of water pipes or 0.4% of sewers every year assumed unrealistic asset lives, Mr Skellett argued.

  • Diffuse pollution: Ms Taylor told the committee that the industry was "extraordinarily impatient" to see something done about diffuse pollution. Pesticides and nutrient pollution from agriculture were a particular issue for which customers were having to pay in water treatment costs, contrary to the "polluter pays" principle.

    "We have been pleased that there has been a clear signal from Ministers within DEFRA that issues such as diffuse pollution have got to be addressed," she said.

    Mr Skellett told the Committee that Wessex Water had defied instructions from the Agency and English Nature to include phosphorus removal from its discharges to the Hampshire Avon in its business plan.

    "What is the point of us spending £54 million, £2 million of operating costs, and using an extra 170 tons of ferric sulphate every year, adding to the carbon dioxide burden, if all we get at the end of the day is we have taken ours out, but [the river] is still eutrophic because of diffuse pollution?"

    Mr Skellett argued for a more balanced approach to water quality which dealt with diffuse as well as water industry pollution sources.

    However, the Agency's Andrew Skinner said that the plan was necessary and Wessex was not being asked to do any more than address its own pollution of the river. But he agreed that it was necessary for the Secretary of State to set in place "a more aggressive way of tackling land-based pollution".

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