CONCLUSIONES Y RECOMENDACIONES

202. The installation of energy efficiency or heating measures which are within the scope of the carbon targets or the Affordable Warmth target will generate credits, or ‘ECO points’ (see Annex H for ECO eligible measures and target metrics). Energy suppliers must obtain sufficient ECO points to meet their obligations. Suppliers will be able to generate ECO points through their own installation activities. However, it is expected that, as with previous obligations87_, there will be a market for ECO points where suppliers contract with installers for ECO points. A further consultation on the ways in which ECO brokerage could be used to help the market to develop efficiency will be undertaken in Summer 2012.

203. Placing an obligation on energy companies to deliver ECO points creates a demand. The market demand for points will be fixed at the level of the ECO target and will be perfectly inelastic. That is, energy companies will be willing to pay any reasonable price to generate or buy ECO points in order to avoid the cost of a penalty for not meeting their obligation.

204. The market supply curve for ECO points represents the relationship between the number of ECO points and the marginal subsidy required per ECO point to create demand for the

measures that generate them. Some measures can generate ECO points at low cost in receptive households. However, the more ECO points that must be generated, the more that either higher cost measures or measures for which there is greater consumer aversion will have to be installed (or both). The upward slope of the ECO point supply curve (see Figure 33) reflects the increasing requirement for subsidy to persuade households to install measures as carbon savings ambition increases. The curve reflects amongst other factors, consumer differences in willingness to pay for identical measures, differences in cost-effective ECO point potential across houses, and differences in suppliers’ costs of installing identical measures. 205. The marginal cost to installers or suppliers of generating an ECO point is determined by the

intersection of the supply and demand curves for ECO points. The subsidy required to deliver the last ECO point should determine the market clearing price for all ECO points. The

brokerage should provide a transparent signal to market participants of the marginal cost of generating ECO points.

87 _{Evaluation synthesis of energy supplier obligation policies, DECC, 2011,}

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Figure 33 Central scenario ECO point supply curve and the cost of ECO (for first interim period)

206. For the energy suppliers, the total cost of the ECO is the size of the obligation (the total number of ECO points) times the market clearing price for ECO points (marginal subsidy cost (£/ECO point) of the last unit of carbon abatement) This is represented by the shaded blue rectangle in Figure 33). These costs will either be the costs of contracting for ECO points through the brokerage or the subsidy cost of promoting and installing the measures through their own activities. The costs of the ECO to suppliers, in the Aggregates Impact section are calculated in this way.

207. The ECO obligations are quantity targets, requiring a given level of savings to be achieved. Until the ECO becomes operational there is uncertainty over what the market clearing price will be. The price will be determined by a range of factors including fossil fuel prices,

technology costs and consumer preferences. In the different modelling scenarios the costs to energy suppliers of meeting the obligations varies, this is explored in more detail in the Aggregate Impacts section. The costs to energy suppliers, under central assumptions are shown in Table 16 below.

Table 16 ECO costs of driving installations

ECO costs to energy suppliers of driving uptake of measures88 ECO Carbon Savings targets, of which: £950m p.a.

Carbon Saving Obligation £760m p.a. Carbon Saving Communities (including Rural

Safeguard)

£190m p.a. ECO Affordable Warmth obligation £350m p.a.

85 208. In a competitive installation market, households are aware of the value of the ECO points

generated by installing their measures in their homes and installers compete for work. Under these conditions, the value of the ECO points should be passed through to householders as subsidy. Those householders who are most willing to install measures, or who have some of the most cost-effective potential (positioned left on the ECO point supply curve in Figure 33) would have required no or little minimum amount of subsidy to be persuaded to install a measure. The subsidy they actually would receive could be greater, however. These

householders can capture some additional subsidy above their reservation subsidy level up to the ECO point market clearing price. For some of the most cost-effective measures, the subsidy offered is expected to exceed 100% of the installation cost.

209. In this competitive installation market, the darker shaded triangle areas in Figure 33 illustrates the ECO subsidies that are given to householders that exceed their reservation subsidy levels. The more the marginal cost of meeting the ECO target increases, the greater this proportion of the ECO subsidy that will be ”additional subsidy” above these reservation levels.

210. In some instances, installers may be able to generate demand for ECO measures while offering a subsidy below the market’s marginal subsidy rate. This is most likely where

householders do not get multiple quotes for installing measures. In these instances installers will capture some of the additional subsidy for the ECO points the installations generate. While it is likely that this will happen to some extent, and that it would reduce the cost to business of the ECO, a conservative assumption has been made for the OIOO calculations that all the additional subsidy is passed through to householders.

Cost pass through

211. In a competitive market, it is profit maximising for the energy suppliers to charge all their customers the marginal cost of supply. The ECO will impose costs on suppliers to meet the obligation. These costs increase the marginal cost of companies to supplying a customer with energy. The cost to companies of supplying a unit of energy will be increased by the marginal cost of generating the ECO points that a suppliers’ ECO obligation is increased by for each KWh they supply.

212. Companies pricing decisions and pass-through of costs are commercial decisions. In the absence of evidence from companies on their pricing behaviour, it is assumed that energy suppliers will pass through the full cost of meeting the obligation to their consumers. DECC has anecdotal evidence to suggest that energy companies do this. They cost environmental policies at marginal cost, and fully pass through the cost of policies. There are no qualitative reasons to suggest why companies will not treat environmental costs in the same way as any other cost of production in this respect.

86 Administrative costs

213. Energy suppliers will face administrative costs associated with the ECO, over and above the administrative burden of the Green Deal. Suppliers will need to have the staff as well as monitoring and reporting structures in place to comply with the obligation, and familiarise themselves with the obligation. These costs are discussed below.

Table 17 Estimated ECO administrative costs to energy suppliers

ECO administrative costs to energy suppliers (PV) Carbon obligations

Monitoring/reporting set up costs £27,000 Familiarisation costs £16,000 Recurring administration costs £890,000 Affordable Warmth obligation

Fixed costs £7.9m Variable costs £7.4m

Total ECO administrative costs £16.3m

214. Energy companies are reluctant to provide estimates of administrative costs associated with supplier obligations for commercial reasons. Evaluation of existing supplier policies like CERT and CESP, and the Green Deal and ECO consultation, have provided little guidance as to what these costs are. The estimated admin costs presented here are therefore uncertain, but guided by costs reported by of the administration of other schemes and informed by engagement with energy suppliers.

215. Energy suppliers are likely to incur one-off costs associated with changes to e.g. reporting requirements under ECO from existing schemes, for example by investing in new software. The exact amount will depend on the ECO administrators reporting requirements, but is expected to be modest given that the obligated suppliers will have existing reporting requirements under the CERT extension. The set up cost is estimated at around £27,00089_.

216. Suppliers will also face a one-off cost associated with time spent on familiarisation with the ECO scheme. This is likely to include time spent for employees to understand the new

framework, and explain this to the companies’ senior directors. The prior existence of CERT and CESP is likely to mean that this cost is relatively modest, and is estimated at around £16,000 for the obligated companies90_.

217. There are likely to be recurring administration costs associated with reporting and all other administration activities associated with the carbon targets. The reporting requirements of ECO has not yet been determined, therefore these costs are uncertain. It has been assumed that the estimated annual reporting costs are similar to those assumed under CERT, at around

89 _{This is calculated as 25% of the annual administrative costs of around £107,000, in accordance with the}

Standard Cost Model guidance.

90 _{It is assumed that each obligated company will require eight person days at a cost of £336 per day. This}

estimate represents the approximate value of management time and associated overheads (Standard Cost Model wage code 111). £336 per day *8 days*6 companies =£16,128.

87 £64,000 per year91

Table 16

. Beyond the reporting costs, it is assumed that there will be admin costs of three employees per obligated company, who will take fifteen days per year to undertake administrative duties associated with the targets at an hourly rate of around £21. This adds an extra £43,000 per year, giving a total annual administrative cost of £107,000 per year. This gives a present value of around £890,000.Companies could choose to meet their obligation by trading on the brokerage, contracting with external providers or promoting the delivery of measures through their own delivery arms. The cost to companies of providing subsidies to deliver measures is captured in above. Companies could incur some overhead costs if they contract ECO delivery out of house. However, these costs are expected to be outweighed by the benefits to them if they chose to deliver their obligation through this route.

Government will be seeking evidence on the costs and benefits of an ECO brokerage platform in a Summer 2012 consultation.

218. Energy Companies would also incur administration costs for the Affordable Warmth target. These are estimated in two components: a) a fixed time cost for participating energy suppliers associated with managing and administering the installation of measures to achieve the target; and b) a variable cost associated with handling phone calls from householders identifying themselves as eligible for assistance under the target and verifying these households.

219. The fixed time cost component is calculated by taking an estimated profile of staff members required to administer achievement of each participating supplier’s target, and applying indicative salary rates to each member in order to estimate the opportunity cost of their time. On average this is equivalent to just under 4 Full Time Equivalents (FTEs) per participating supplier, per year of the scheme, valued at a weighted average salary cost of circa £38,000 per FTE. This results in an estimated annual time cost across all participating suppliers of £910,000 per year. In the first year of the scheme only, additional setup time costs are also calculated, in the same way, by taking an estimated 1 FTE and valuing the time with a weighted average value of circa £70,000 per FTE. This results in an estimated one-off setup cost across all participating suppliers of £385,000. The present value of the fixed element is £7.9m.

220. The variable cost associated with phone calls is estimated by applying estimated time and resource costs of processing a phone call to the total number of measures that are estimated to be installed in each year of the scheme under the Affordable Warmth target. 30% of these phone calls are also assumed to require a follow up call. The capital costs of running a call centre are assumed to already have been incurred, and are therefore sunk costs that are not attributable to the ECO. Under the central working option, around 105,000 households are estimated to have measures installed on average in each year of the scheme (adjusted to account for some households potentially receiving more than one measure). Applying a 30% uplift results in an estimated 135,000 phone calls per year, which are then valued using an average cost of £7 per phone call.92

91 _{£59,000 per year (2009 prices) reporting costs assumed in the CERT assessment}

This results in an average annual cost of handling phone calls of around £1m across all participating suppliers per year giving a present value of £7.4m.

88 Costs of the ECO administrator

221. There will be costs to Government associated with the ECO administrator, however, the final arrangement and appointment of the administrator is yet to be confirmed and we therefore do not have actual cost estimates. For the purpose of this assessment, it is estimated that there will be a one-off cost of around £1.3m associated with setting up the ECO administrator, and that the administrator’s annual operating costs will be around £2.5m per year. The set-up costs are based on cost estimates of setting up CESP, and the operating costs is the estimated combined cost of operating the CERT and CESP.

Table 18 ECO administration costs to Government

ECO costs to Government – administration (PV) ECO administration

Set-up costs £1.3m Operating costs £20.8m

Total cost to government £22.1m

222. Costs to government of the brokerage administrator will be assessed in the Summer 2012 brokerage consultation.

89