What makes my energy bill rise?

simon chandler
By Simon Chandler

bill shock

According to an industry source, yet more price rises are coming" for customers with both major and challenger energy providers.

Given that tariffs had already been increased by numerous suppliers more than once in recent months, any new rise will undoubtedly leave some customers scratching their heads in a mixture of confusion and anger.

Yet even though it's never pleasant to be on the end of hikes, it's helpful to know what exactly causes price rises and what makes them more likely to occur.

That way, we might at least be a little more prepared for rises when they do happen, even though this sadly won't do much to make them any less unavoidable.

To this end, this feature will look at the various factors that contribute to peaks in tariffs and bills. It will examine such things as changes in wholesale prices, in currency values, and in government policies, and from this it will provide a beginner's guide to predicting when bill rises are likely to happen.

Wholesale costs

Section menu
Wholesale reductions: are they passed on?
What have to do with energy
Transportation (aka network) costs
Paying for Government policy
And what about my supplier's Profit?

By far and away the most reliable sign of an approaching increase is movement in the wholesale cost of oil, coal and gas.

These raw materials account for around 45% of the price customers have to pay for their energy, meaning that any rise in the price of oil or gas will most probably force their bills to climb upwards.

In fact, it was reportedly because of increases in wholesale costs that the majority of this year's price rises happened.

This was at least the explanation given by, for example, OVO Energy, who in a pricing statement from June put a 7.6% rise down to "a steady increase in the wholesale commodity costs for both gas and electricity."

It was also the explanation provided by Co-operative Energy, whose spokesperson said in September, "In recent months, we have absorbed ... an increase in electricity and gas wholesale prices."

While there's little doubt that the wholesale cost of energy does put financial pressure on providers, it inevitably begs the question: why do wholesale costs move so much?

The answer to this lies with international markets and demand. For example, in the 10 years between 2003 and 2013, heightened demand from rapidly developing countries like China and India helped push the price of oil from $30 a barrel to $100.

As far as the UK is concerned, there are also other elements which complicate this picture further.

For one, the UK's growing reliance on imported fuel means that its energy providers are increasingly sensitive to international prices.

In 2004, imports accounted for approximately 0% of Britain's energy supply. By 2014, they had managed to equal some 46% of the total.

It's therefore little wonder that British energy providers see hardly any choice but to respond with higher bills for their customers every time wholesale costs mount up.

Added to this, political events - often concerning the mainly Middle Eastern members of the Organization of the Petroleum Exporting Countries (OPEC) - also put a significant squeeze on UK energy bills.

This was most evident between 2007 and 2009, when the price of oil passed the $100 per barrel threshold and hit an all-time peak of $147 in July 2008.

Part of the reason for this staggering increase were political instabilities and conflicts, with tensions in Iran and Nigeria being respectively blamed for creating doubt in 2008 over the security of the world's oil supply.

Because of such political instabilities and the financial strain they caused, some analysts were led to warn that energy bills for UK customers could reach £5,000 a year by 2020 if trends continued.

Fortunately, the price of a barrel of oil fell soon after its historic peak, with the current value now standing at $52.

However, some commentators have warned that the continuing Syrian crisis, for instance, could have a potentially unfortunate effect on wholesale costs.

So far it hasn't, but because it implicates some of the biggest oil- and gas-producing nations in the world - Saudi Arabia, Iran, Iraq, Kuwait, the United Arab Emirates and Russia - any deepening of the crisis could drastically lower production.

Wholesale reductions

Unsurprisingly, this would have a marked effect on wholesale costs and on bills. Yet as many people have often noticed, things don't often work the other way around.

Indeed, energy providers are often criticised for failing to pass on reductions in wholesale costs to their customers.

To take one example out of many, wholesale gas and electricity prices decreased by 30% and 15% respectively in 2014.

Sadly, of the Big Six energy suppliers, only E.On had cut their bills by January 2015, and only by a modest 3%.

Such reluctance to pass on reductions was explained, at least by EDF, in terms of changes to the particular makeup of their costs.

This February, their Manager of Mid-Market Sales said, "In 2014 the wholesale cost of power ... accounted for 60% ... Now it accounts for only 40%."

This may be so, but if it accounts for less of their total costs, then it would partly undercut the explanation given for their recent price rises and for some of those of their rivals.


Still, while there's doubt as to whether they're being completely honest here, there's little question that other factors do definitely come into play when determining how much UK customers will pay for their energy.

Related to wholesale costs and international demand, there's also the matter of the value of the currency being used to purchase imported energy.

In Britain's case, this currency is the pound, and since the vote to leave the EU on June 23rd it has taken a battering.

Soon after the vote, its decline to a 31-year low of $1.31 meant that wholesale prices hit a nine-month high, since it could no longer buy as much energy for the same price.

Not only that, but the strengthening of the Euro in relation to the pound meant that more Euro-trading countries were buying British wholesale energy, since they could now afford to purchase more of it.

As a result, the increase in foreign demand for British energy caused less of this energy to be available. This meant that the UK had to buy more from abroad, using a much weaker pound.

Because of this, customers should remain aware of movements in the value of sterling, since these will always have a knock-on effect in wholesale costs.

Transportation (aka network) costs

They should also keep an eye out for transportation costs, since these are constituting an increasing proportion of their energy bill.

That's because energy suppliers are investing more money in updating the UK's gas and electricity networks, which are what transportation costs are all about.

These networks comprise the power stations that generate and process energy, as well as the lines that distribute them across the country. They also include Government green incentives such as the feed-in-tariff used to pay people for generating sustainable energy, and also any upgrade to the UK's energy infrastructure.

According to NPower, such costs will amount to 27% [PDF] of the average UK energy bill by 2020.

This represents an increase of 37%, brought about, for instance, by such investments as the recently approved Hinkley Point nuclear power station.

Because such projects and upgrades add to the average bill, it would be worthwhile remaining abreast of any major new plans, simply because these will ultimately be paid for by energy customers.


And again, customers will also be paying for Government energy policy, which includes measures intended to tackle climate change.

The most notable of these is the Climate Change Levy (CCL), which was first introduced in April 2001 as part of the UK's Climate Change Programme.

As of writing, this charges electricity producers 0.559 of a pence for every kWh of energy they generate, while the rate for natural gas and liquefied petroleum gas producers is 0.195p and 1.251p respectively.

It was estimated [PDF] by the Department for Energy and Climate Change (DECC) in 2013 that such a levy - in conjunction with other Government measures - makes up 9% of the average household energy bill.

This is equivalent to £112 of an "average" £1,267 fuel bill, underlining how UK customers are not only paying a heavy price to use fossil fuels, but are also paying a heavy price as a result of using them.

And as the July budget of 2015 and the March budget of 2016 both made clear, this price is liable to rise with every change of Government policy.

That's because in the July 2015 budget, then-Chancellor George Osborne changed the CCL to remove the exemption received by generators and suppliers of renewable energy.

On top of this, the March 2016 budget announced that the main rates of the levy would be increased from 2019.

As such, customers may find their energy bills rising yet again, even if wholesale costs decrease.


While this might seem to justify the likes of EDF when they claim that they can't always pass on declining wholesale costs, it's only just that the final section of this guide is devoted to the proportion of a household fuel bill constituted by the supplier's profits.

Admittedly, this proportion can fluctuate from year to year in both directions, yet the longer term trend is clearly towards increases.

A recent infographic from Ofgem demonstrated this with an instructive bar graph that charted the changing constitution of an average household fuel bill over time.

In 2009, earnings before interest and tax (EBIT) provided only £8 of a £1,095 dual fuel bill. By 2014, this had reached a more substantial £51, before dropping slightly to £47 in 2015.

Energy suppliers are likely to point out that this £47 figure is only 4.04% of the £1,165 bill (or 6% if you're British Gas).

They may be right, but 4.04% is still a considerable increase on 2009's 0.7%. It shows that the general trend is towards increasing profits and an increasing share of the average fuel bill.

This is why, when suppliers celebrate increased earnings or promise increased earnings to their shareholders, their customers should be a little wary.

And if they feel that their providers do really put profits ahead of everything else, then perhaps it's time to consider voting with their feet, and switching to another company.

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