STUC Evidence to the Environment and Rural Development Committee on the Water Services Etc. (Scotland) Bill.

Introduction

The STUC welcomes the opportunity to give evidence to the Scottish Parliament Environment and Rural Development Committee on the Water Services (Scotland) Bill. This response needs to be seen in the context of the STUC's and our affiliates submissions to recent Scottish Executive consultations on the water industry and in particular the consultation on the Draft Water Services Bill.

This is the latest of a number of legislative developments affecting the water and sewage industry in Scotland including the establishment of a public water corporation, Scottish Water and a revised regulatory framework. This bill focuses on changes to the regulatory framework and the development of competition in networked water and sewage. Competition already exists in off-network services.

In this context it is important to recognise the scale and speed of change that has already taken place in the industry and the importance of a period of stability to bed in the current structure.

Part 1: Water Industry Commission for Scotland

The STUC welcomes the establishment of the Water Industry Commission for Scotland as a corporate body replacing the Water Industry Commissioner. Experience elsewhere has demonstrated that regulatory frameworks that rely on one person have not operated satisfactorily and we endorsed many of criticisms of the current arrangements in the recent Finance Committee report.

The model proposed in the bill has many similarities to the regulatory framework that exists in private utilities. These have been subject to some criticism not only from the utility industry and trade unions but also as reflected in the recent House of Lords report on regulation. Other ideas from the think tank Demos include the concept of adding ‘public value'.

In essence the problem has been that regulators promote competition to the detriment of other factors. There has been an over emphasis on price and efficiency with little consideration of the impact their decisions may have on employment and other social and environmental concerns. These economic models can also be in conflict with government policy as we have seen recently over the transmission loss proposals from Ofgem that would have ended the nascent renewables industry in Scotland. Schedule 1 does not set out the type of person that should be appointed to the WIC. Membership should reflect the wider public policy considerations and not simple economic factors.

Getting the right framework and objectives is all the more important in a public service. The objectives of the water industry are of wider concern that simply those connected to the current system as defined in section 1 of the bill.

The STUC welcomes the provisions in section 3 allowing regulations to define how the balance of costs between Scottish Water and developers will be calculated. We believe there is a strong case for developers meeting a much greater share of the cost of new water and sewerage services so that new development can proceed without detracting from the urgent need to renew the existing infrastructure.

Part 2: Provision of Water and Sewerage Services

The driver for this legislation is the UK Parliament's Competition Act 1998 that seeks to prevent the restriction or distortion of competition and the abuse of a dominant market position. The STUC and our affiliates have previously highlighted the danger of this ill thought out legislation for essential public services. In essence the Water Services (S) Bill seeks to implement the provisions of the Competition Act whilst minimising the adverse impact on Scotland. It should however, remind the Scottish Parliament to be vigilant about other international competition initiatives that impact on public services. In particular, reforms of the EU internal market and GATS.

The policy basis for this section of the bill takes a more realistic view, than the original Water Services Bill consultation in 2001, on the alleged benefits of competition. Experience in other utilities has shown that the alleged benefits are more apparent than real and comes at a significant cost to the consumer. The STUC rejects the view that competition in essential utilities brings benefits to consumers. There is no evidence to support this often-quoted position.

The Competition Act 1998 introduced a new framework for competition bringing into domestic law (this is a reserved power to the UK parliament) provisions which enact European law on this issue. In particular it introduces new sanctions for anti-competitive behaviour. The Act applies to Scottish Water and is enforced by the Director General of Fair Trading (DGFT) as the WIC in Scotland does not have the same powers as the water industry regulator in England and Wales, OFWAT.

The Act includes provisions for exemptions and exclusions on a number of grounds. The STUC believes that the provisions of Schedule 3 (7) remain a sound basis for an exclusion under the Competition Act. Water and sewerage is an essential service in a civilised society and competition puts that service at risk, particularly for disadvantaged customers. The public policy grounds could relate to rural, economic and social exclusion strategies under this heading. In addition the Executives environmental objectives will be difficult to achieve in a competitive framework and this provides a further public policy basis for an exclusion.

Prohibiting common carriage on the public networks

The STUC agrees that the risks to public health and the environment outweigh any foreseeable benefits from allowing access to public water and wastewater systems. Our affiliates have previously highlighted some of the many technical difficulties in achieving common carriage including:

• Many existing mains have no spare capacity for additional water
• The Fraser Report (Burncrooks) recommended the zoning of water from different sources as a precaution against contamination.
• Arrangements for proving and compensating for mains pipes fractures caused by third party supply e.g. pressure surges.
• Responsibility for boosting disinfectant residuals.
• Backflow protection to stop accidental or fraudulent back-syphonage
• Allocation of the cost of leakage or lost water e.g. misuse of fire hydrants.
• Pipe size incompatibility when new sources are attached to the mains.

Scottish Water would have to be responsible for managing a comprehensive access code to ensure that there was adequate supply. This code would be enormously complex covering all possible situations including seasonal demands, bursts, drought provision etc. There would also have to be costly physical systems in place to isolate new entrants supply and provision for ‘last resort' supply.

We understand that the provisions of s4(5) are intended to cover contractors working for Scottish Water. The wording could however be interpreted to allow a somewhat wider private sector access.

The consequences of common carriage even with costly systems intervention could include at worst contamination of water supplies or at best interruption and damage to the water and sewage infrastructure. The public health consequences are obvious and therefore the provisions in the bill prohibiting common carriage are sensible.

Prohibiting retail competition for households.

The STUC agrees that retail competition poses risks for households.

For household customers water charges, linked to Council tax bands, reflect broadly the ability to pay. The current arrangements include a discount for single adult households. The STUC notes that revisions to the current banding system will be considered as part of a wider review of local government finance. Competition would bring separate water charges and the loss of the essential progressive charge basis, which is in our view a requirement for an essential public service. There is no practical alternative to piped water and sewage disposal.

The arrangements in place in other competitive utilities for disadvantaged consumers are generally very limited. For example fuel poverty still impacts on one in six Scottish households despite the excellent measures taken by the Scottish Executive to address this issue.

The original consultation paper rightly identified the serious risk that new entrants to the market would ‘cherry-pick' high-banded properties. This has also been the experience in other utilities where existing suppliers have been forced, because of competition, to chase ‘high value' customers at the expense of other consumers. Not only would charges increase for most consumers but Scottish Water would be left with stranded assets brought about by off network provision.

The STUC therefore agrees that competition would develop in a way that would not benefit all customers and welcomes the provisions in the bill prohibiting this form of competition.

Licensing non-household retail competition

The STUC does not support the introduction of retail competition in non-households. The 160,000 premises covered by this competition are a significant part of Scottish Water's operation. Business separation (s12) will be a further and unwelcome disruption to the corporation, which is attempting to address the long-standing problems facing the industry.

Some of the main problems include:

• Experience in the energy industry shows that business separation is an expensive business. The loss of integrated operations, economies of scale, rebranding etc all add to the costs charged to customers.

• The financial arrangements for business separation are crucial to the viability of the proposed retail arm and the wholesale organisation. The assumptions built into the Regulatory Impact Assessment give us considerable cause for concern. The efficiency gap calculations (para 14) are based on the 2002 estimates and the position has changed significantly (from a claimed 42% to less than 10%) since then. The size of the retail business is also crucial. Para 23 assumes the full retail segment is £109m (15%) compared with Ofwat's estimate of 8% for England and Wales. This could lead to unnecessary burdens on the retail arm and a weakening of the core Scottish Water organisation. In essence both organisations would be set up to fail if this financial structure is put in place.

• A whole new industry is created with new customer service, billing, marketing and sales operations, all of which divert resources which could be more effectively deployed improving our water and sewage networks.

• Further systems will have to be established to allow switching between suppliers. This has caused chaos in the energy market and will inevitably do the same in water and sewage. The provisions in s10 are particularly vague and the costings in the financial memorandum are optimistic in the extreme.

• As Scottish Water will have a statutory obligation to supply everyone they will be left with disjointed operations. Many of the cherry-picking arguments set out above also apply to non-household competition. Most of the 160,000 properties are small businesses in high street locations. New entrants will inevitably focus on larger consumers or those in geographically concentrated areas such as out of town estates in urban areas. S15 will also place additional costs on Scottish Water that should be spread across all suppliers.

• The WIC will gain further powers to directly set wholesale charges. Current experience indicates that this may not be wholly beneficial to either customers or the industry. Unlike other utilities the water and wastewater systems are not organised into a cohesive network. The industry has not diverted essential investment resources into management information systems that are an integral part of a regulated market. This is reflected in the WIC's reports on Scottish Water's alleged performance. Despite the apparent detail the judgements are based on limited data. In the privatised utilities the companies establish extensive regulatory functions to engage with the regulator. Again all of this would be recharged to the customer.

• Whilst not set out in this bill (because it is a reserved function) it is intended that any differences over charges between the WIC and Scottish Water will be referred to the Competition Commission. This body has no experience in dealing with a public service and in particular interpreting the broader objectives that Scottish Ministers can set under s18. Their expertise is in the economic and competition sphere. The STUC takes the view that these are properly public policy interpretations that should be decided in Scotland and not handed over to an inappropriate London based organisation.

Conclusion

The STUC broadly welcomes the provisions of the bill as being a more realistic recognition of the realities of the industry that those set out in the original Water Service Bill consultation in 2001.

The major problem relates to the proposals for non-household retail competition. We suspect that this more modest proposal reflects a concern to be seen to provide an element of competition in accordance with the philosophy inherent in the Competition Act. However, the proposals still constitute a major upheaval for little value to the consumer. It is also a further stage along the road to the full privatisation of Scotland's water.

STUC
August 2004