How has the price cap changed since the energy crisis?

Since being first introduced by Ofgem on January 1 2019, the energy price cap has gone through a number of changes that have left gas and electricity customers unsure of how it benefits them, especially in the face of paying record-high energy bills.

The price cap was, initially designed, in part, to address the loyalty penalty - the higher prices paid by long-standing energy customers to their existing supplier compared to those who were new customers switching to that supplier. The cap was intended to protect customers, particularly vulnerable ones, from being charged excessively high prices for energy.

But beginning in 2022, when unprecedented volatility in wholesale energy prices began, the cap’s composition began to change and be restructured.

These changes, while helping stabilise the energy sector, have sparked debate over their impact on consumers and their ability to balance protection with affordability.

What is the price cap designed to do?

The energy price cap was introduced as a means to protect households who found themselves on their supplier’s default standard variable tariff after their fixed priced contract had expired and had not switched to a new deal with another supplier.

However, this protection is only applied in terms of ensuring customers pay what Ofgem deem a “fair” retail market price, even if that price is considered unfair or unaffordable relative to the wider energy market and an individual household’s circumstances, with prices only falling once suppliers costs do.

Because the price cap does not apply further up the chain, where energy is actually produced and where the majority of the price rise comes from, the cap has faced significant scrutiny for not being designed to keep gas and electricity at an affordable price, nor to offer any specific protections for those in danger of falling into fuel poverty. The price cap remains the same for every household, regardless of income.

What was the composition of the price cap before and after the start of the energy crisis in mid-2022?

The price cap is made up of several components that determine the maximum price suppliers can charge for energy.

While these components have always been in place, the amounts themselves have changed since the energy crisis hit in 2022:

Energy Market Prices

Wholesale market price of gas and electricity plays the biggest role in determining the average energy bill. For the winter energy price cap of October 2021, market costs made up more than 40% of the total cap, or £528 of what was then the average £1,277 dual-fuel energy bill. But for the price cap that followed in April 2022 once the crisis began, market costs more than doubled to £1,077.

Network costs and bust suppliers

The cost of maintaining the electricity wires and gas pipes that carry energy to homes, offices, and factory sites is paid to regional energy network companies through a levy on energy bills, which typically make up about 20% of the average energy price cap.

Ofgem must determine how much network companies are allowed to spend over set periods, and how much can be taken from energy bills. In the price cap from April 2022, customers began to pay a higher rate for network costs in order to cover the cost of energy suppliers that went bust.

During the winter of 2021-22, network costs were £268, but in the energy price cap that followed in April 2022, network costs climbed to £371, and included a £68 levy to cover the cost of suppliers that went bust.

Operating costs and supplier profits

The energy price cap allows for the costs incurred by suppliers to deliver billing and metering services to their customers, including the installation of smart meters, while making a reasonable profit.

During the winter price cap of 2021, energy companies were allowed to claim operating costs of £204 from the average annual energy bill, but following the new cap introduced in April 2022, this grew by almost 10% to £220.

The increase was in part because Ofgem’s allowance toward supplier profits, which was set at 1.9%, is now included within operating costs rather than shown as a separate allowance. The 2021 winter price cap allowed energy suppliers to claim £23 from each default energy tariff as profit. With the cap introduced from April 2022, they made over £37.

VAT and other costs

VAT is set at 5% for energy bills, which for the winter cap of 2021, meant £61 for the Treasury from the average dual fuel household. But under the new cap in 2022, the amount for each home grew to approximately £98.

According to Ofgem, energy suppliers that take on customers after the collapse of a supplier (known as the Supplier of Last Resort or SoLR) can claim “any reasonable, additional, otherwise unrecoverable costs”. These claims, paid to energy companies by the distribution network companies, are recovered from energy customers via these charges.

What changed in 2022?

Just as the price cap forces suppliers to lower their default tariff when the prices they pay on the wholesale energy market falls, it also allows them to increase it when their costs rise.

Energy suppliers typically buy their gas and electricity from the market in advance, so Ofgem determines the cost of buying energy from the market by tracking wholesale prices over a period of six months ahead of the next price cap period.

This is important because the first big impact of rising wholesale gas prices in early 2022 was when a number of smaller British energy companies went bust as they were unable to pass on rising costs in time and did not have the financial resilience to weather the storm.

In August of the same year, Ofgem announced it would change the price cap methodology - updating it quarterly rather than every six months, which, arguably works better for households when suppliers’ costs fall.

However, when prices rise due to factors further up the supply chain, these regular updates although may help stop suppliers from going out of business, have done, and will do, little to help customers who are forced to pay more for their gas and electricity.

How have some larger energy suppliers managed to turn a profit with the price cap in place and during the energy crisis?

The record-breaking profits achieved by some large UK energy suppliers in 2022 and beyond can largely be attributed to their role in trading and hedging practices during a volatile global energy market.

Many energy suppliers hedge their gas and electricity purchases by buying supplies in advance to protect against price fluctuations. In 2022, those who secured contracts at lower pre-crisis prices could sell their surplus gas at the much higher market prices triggered by the war in Ukraine and global supply disruptions.

If these companies didn’t need all the gas they had contracted for, they could offload the surplus on the open market, where demand was surging and prices had skyrocketed.

Crucially, the price cap does not apply at this stage of the supply chain, and there is no requirement to “share the gain” along with the costs.

What about the difference between the TDCV and the energy price cap?

Typical Domestic Consumption Values (TDCVs) are a standardised estimate of the annual energy usage for households across the UK, and are used to act as a guide for what a typical dual-fuel household in England, Scotland, Wales, and Northern Ireland can expect to pay for their energy over the course of a year. These averages are split into three groups of consumers based on their energy use: low, medium, and high.

In October 2023, Ofgem updated the Typical Domestic Consumption Values (TDCVs) to reflect a decrease in average household energy usage. The TDCV for electricity was reduced from 2,900 kWh to 2,700 kWh per year, and for gas, from 12,000 kWh to 11,500 kWh per year

Ofgem attributed the lowering of TDCVs to the following:-

1. Energy efficiency improvements: With more households having adopted energy-efficient appliances, better insulation, and more efficient heating systems, this has reduced the overall demand for energy.
   
   
2. Behavioural changes: in response to the ongoing energy crisis, many households have taken to reducing their consumption as a means of managing their costs.
   
   
3. Smaller households: Ofgem has also claimed that a shift in demographics of homes across the UK (i.e. smaller families) have contributed to an overall lower use of energy.
   

But not everyone has or can make such changes, and lowering TDCVs while increasing the price cap could be considered misleading as it gives the impression that energy has become cheaper when overall, it has not.

Below is an example designed to illustrate how the change in TDCVs could lead an energy customer to pay more, even though their actual energy use has not changed.

Before the TDCV Update

• Old TDCV (Electricity): 2,900 kWh/year
• Unit rate (electricity): 35p per kWh
• Standing charge: £200 per year
• Customer consumption: 2,900 kWh/year (matches the old TDCV)

Calculation:

• Energy costs: 2,900 kWh × £0.35 = £1,015
• Total annual bill: £1,015 + £200 = £1,215

Under the old TDCV metrics, this consumption aligned with the "typical" household, so this bill is considered representative of the average.

After the TDCV Update

• New TDCV (Electricity): 2,700 kWh/year
• Unit rate (electricity): 35p per kWh (same as before)
• Standing charge: £200 per year (same as before)
• Customer consumption: 2,900 kWh/year (unchanged)

Calculation:

• Energy costs: 2,900 kWh × £0.35 = £1,015
• Total annual bill: £1,215 (unchanged in reality)

Because the new TDCV is 2,700 kWh, the "typical" annual bill under the price cap is now calculated based on this lower consumption. For 2,700 kWh:

• Energy costs for new TDCV: 2,700 kWh × £0.35 = £945
• Total price cap figure: £945 + £200 = £1,145

The impact

The customer’s actual bill remains at £1,215, but the new price cap "typical" bill is £1,145, leaving the customer to feel as though they're paying £70 more than the average, in spite of their consumption remaining unchanged.

The recent change made to TDCVs effectively lowers the "average" consumption benchmark, meaning that customers using more than this new benchmark are now technically "above average," leading to higher bills relative to the recalculated average. Even if their consumption hasn't increased, they appear to be overpaying due to the recalibrated baseline.