Switching Energy Suppliers: It's Not All About the Money.

• Author: Deller, David

1. INTRODUCTION

   The UK government has introduced price caps on "default" retail energy prices, (1) sixteen years after removing price regulation from the market. Its primary declared objective is fairness to consumers who "leave money on the table". (2) This price cap policy follows a decade of intervention from governments and regulators to address consumer "inertia" which has yielded disappointing results, as many consumers seem to remain "disengaged". There are particular concerns for households in hardship who pay more than necessary for a commodity that absorbs a significant proportion of their income. The regulator has seen low switching rates as problematic since its Energy Supply Probe (Ofgem, 2008), and the Competition and Markets Authority (2016) found an Adverse Effect on Competition from weak customer response. Such disengagement does not sit easily with naive utility-maximising models where consumers are expected to purchase a homogeneous product at a lower price.

   We explore why one group of active and apparently well-motivated consumers did not accept offers of lower energy prices and reduced bills, even though it seemed easy for them to do so. Despite the evidence of this kind of inaction, policymakers have sometimes relied on a rather narrow view of the behavior of rational consumers. An example of this approach can be found in a call for evidence issued by the UK Department of Business Innovation and Skills (2015). "If you knew you had won [pounds sterling]200 on the lottery, would you forget to claim it? Probably not. Yet consumers across the UK are effectively ignoring significant savings every year when they stick with their current providers of essential but routine services." Our investigation allows us to consider a range of non-monetary factors which are often ignored when devising policies to address consumer "inertia". Indeed, we find a number of non-monetary factors which seem influential and which help to explain the apparently weak consumer response to savings opportunities in this context, suggesting that price competition for this apparently homogeneous product may have less power than is often assumed by policymakers.

   The energy sector is not only important in the individual budgets of millions of households, but, as current UK policy demonstrates, is politically sensitive and represents significant value in the overall economy. These findings therefore have important implications both for the optimal design and regulation of such markets and for the management strategies of firms operating in the energy and other industries. Consumer inaction in the face of extensive potential energy savings is widely observed, both in US States which have opened retail energy markets (Hortacsu et al., 2017) and in the UK, where energy markets are relatively mature (Competition and Markets Authority, 2016). In the Spring of 2012, Which? (a subscription-based consumer organisation (3)) and 38 Degrees (a campaigning group) advertised an open invitation for consumers to join The Big Switch (TBS), the largest collective energy switching exercise ever conducted in the UK. Participants provided information about their energy (electricity and, where relevant, gas (4)) consumption (5) which was passed on in aggregate form to the energy companies bidding in the auction. On the supply side, the auctioneers provided an open invitation to bidders, but imposed some restrictions, including geographical uniformity, (6) which deterred some suppliers. Some established providers expressed concern about how participation in the auction might affect the regulator's views on prices charged to other customers. In the event, five companies, including three of the six leading providers, joined the auction. Each participating consumer then received a personalised offer based on the bid made by the winning company (Cooperative Energy--henceforth, Co-op) and was invited to accept it, but with no obligation to do so. If, for any particular consumer, there happened to be a cheaper deal available from another company on the Which? price comparison website, the consumer was shown that cheaper deal as well as the offer from Co-op. (7) A small number of participants in TBS already had a deal which TBS could not improve upon: these observations have been excluded from the present analysis as we are interested in the behavior of consumers who had an opportunity to save on their existing bills but did not take up the offer.

   When presented with the offer(s), participants had to take little further action to complete a switch. (8) Yet only just over a quarter of those who were presented with positive savings took the small step necessary to accept the offer. Even for savings of over [pounds sterling]300 per year (around a third of the average bill), fewer than half switched, despite the fact that these participants had already actively opted into TBS, faced no additional search costs and often had characteristics which are usually associated with market engagement. We explore why so many consumers chose not to switch even when offered substantial savings in a benign switching context.

   Our analysis combines energy characteristics and decision data from nearly 87,000 households with survey data for a subset of just under 7,500 participants who provided additional information about their personal characteristics and attitudes. Linking these sources of data provides a unique opportunity to observe on a large scale the decisions which consumers made about whether or not to switch.

   Our data allow us to investigate switching decisions separately from the search process which consumers often face when contemplating changing supplier. (9) Low rates of switching are often attributed to the deterrent effects of having to search: even with online price comparison sites available, it requires some determination to set time aside to search among many somewhat complex tariffs when, ex ante, the benefits of the search are uncertain. In the present study, the focus upon the "accept or decline offer" stage of TBS enables the isolation of a "pure" switching decision, since very little extra effort was required to accept the offer. (10)

   We find that a wide range of factors influence a consumer's decision about whether or not to switch. The offer of a substantial monetary saving alone is often insufficient to ensure switching, even for those who said they had opted into the auction with monetary savings as a motivating factor. Other broad factors which influence the switching decision include uncertainty about various aspects of the offer(s), preferences over non-price characteristics, concerns about the switching process itself and time pressures. Many of the factors identified can be located within a rational decision-making framework, suggesting that the perceived net benefit from switching may be much less than solely the magnitude of potential monetary savings. Consequently, switching rates are likely to be substantially lower than we might initially expect, even in favourable conditions. An important policy implication is that energy markets need to be designed with such barriers in mind and in the knowledge that switching rates may be difficult to raise above a modest level.

   While much of the behavior might be understood within a rational choice framework, TBS also provided some evidence of responses which may not fit rationality assumptions so well. For example, some participants saw two offers: the one from the Co-op and another (cheaper) offer that was the best from any other company on the Which? price comparison website. While more choice is conventionally regarded as desirable, in this case simply being shown two offers rather than one reduced the probability of switching, all other things being equal.

   The paper proceeds as follows. Section 2 provides an overview of the literature regarding consumer behavior in energy markets. Section 3 gives a detailed description of the data and a range of descriptive statistics. Section 4 explains the econometric methods used. In section 5, we present results. Section 6 concludes and suggests some implications of our results for managers and policy makers.

2. LITERATURE REVIEW

   The importance of consumer switching for the healthy functioning of markets has long been recognised (for example, see Waterson, 2003; and McFadden, 2006). In the energy market, the increasing emphasis given to consumer behavior and aggregate switching rates by regulators and politicians is evidenced by the escalating number of policy reports and initiatives on the topic: for example, Competition and Markets Authority (2016), Department of Business, Energy and Industrial Strategy (2017) and Council of European Energy Regulators (2017).

   Consumer switching behavior in energy markets has been investigated in a number of survey-based academic studies. For example, Ek and Soderholm (2008), Juliusson et al. (2007), Gamble et al. (2009) and Weber et al. (2009) report survey data for parts of continental Europe, while in the UK, survey based papers include Waddams Price and Bennett (1999), Waddams Price (2004), Giulietti et al. (2005), Waddams Price and Zhu (2016), He and Reiner (2017) and Flores and Waddams Price (2018). These studies each identify anticipated monetary gains from switching as a key driver of search and switching, consistent with a rational model of consumer choice, where individuals allocate their time to different tasks according to the expected gains available. Nevertheless, these studies also find that factors beyond monetary savings influence the likelihood of switching. For example, Flores and Waddams Price (2018) and Waddams Price and Zhu (2016) report that the experience of switching in other markets positively influenced switching behavior in the electricity market. He and Reiner (2017) confirmed that non-price factors, particularly consumers' attitudes to energy, which are related both to...