The regulatory environment in the EU is fragmented with, in effect, 28 individual regulatory regimes. European electricity and gas transmission systems, particularly interconnections, are insufficient to bring about the internal energy market. Substantial investments are needed, yet infrastructure investors cite lack of investment opportunities and regulatory burdens as key issues1 for the infrastructure market in 2015.
In its ambitious communication of 25 February 2015, the European Commission has set itself 15 action points for the implementation of the Energy Union, one of which is to support the implementation of major infrastructure projects, particularly Projects of Common Interest2 (PCIs) and to bring together information on infrastructure projects to maximise the impact of available financial means.
Energy infrastructure is high on the European energy agenda. The proposed Energy Union3 aims to streamline the regulatory regimes across the EU and to mobilise funds to upgrade and extend transmission systems, in particular interconnectors; a vision of an integrated, continent-wide energy system where energy flows freely and competitively across borders based on best use of resources. The Commission envisages an energy market inspiring investor confidence based on price signals and stable regulation that reflect long-term investment needs.
What impact will this have on energy infrastructure investments? As we outline in this briefing, the Energy Union is intended to bring
- strong focus on investments in interconnectors
- aligned regulation and more centralised oversight, incentivising long-term private investment and funding
- cohesion of financial resources
Focus on investment
Energy generation is in a rapid transitional phase, the likes or speed of which is unprecedented. Generation has and is still going through a paradigm shift in Europe. Where state monopolies used to run generation, transmission, distribution and sales, only fragments remain. Generation used to be where the demand was, so that large power plants – coal, gas and nuclear – were located next to industrial centres. There is now a disconnect between the location of generation and the location of demand.
To get power from source to user, modern transmission networks are needed. The European energy infrastructure is ageing and not adjusted to more renewables, which are intermittent. The EU has recently agreed on even more stringent goals, aiming to lower CO2 emissions by 40 per cent compared to 1990 as against previously 20 per cent and achieve a 27 per cent increase in renewable share. This changing generation requires adaptation of the transmission networks and grids.
The European internal market does not yet work properly – the energy system is underperforming. The fragmentation and market design does not allow sufficient investments and competition. Energy islands continue to exist in the EU; countries and regions are not properly connected and cannot reap the benefits of the internal energy market. European electricity and gas transmission systems, particularly connections across borders, are insufficient to bring about the internal energy market.
The EU needs to reach a minimum electricity interconnection target of 10 per cent by 2020 to achieve a resilient energy market and to implement the Energy Union. As the map below illustrates, the interconnectivity across the Member States vary dramatically, leaving some Member States in the periphery with only little or no connection to their neighbours.
Map of interconnection levels in 20145
It should be noted that the interconnectivity levels displayed do not take into consideration that Estlink2 has brought substantially increased interconnectivity to the Baltic states; also, once the interconnector linking Baixas in France with Santa-Llogaia in Spain, the interconnection capacity between France and the Iberian Pensinsula is set to double.
Interconnectivity will reduce energy dependency and the investment requirement in peak power generation and storage, as electricity can be transported to where it needs to be and is needed to meet EU’s ambition to be world leader in renewable energy. It is intended that this interconnectivity target will increase to 15 per cent by 2030. These ambitious interconnectivity targets shall primarily be met through the implementation of the PCIs, 75 per cent of which the Commission believes will be implemented by 2020. This is an ambitious target. If successful, the interconnectivity map would look very different.
Map of interconnection levels in 2014 after implementation of current PCIs6
We thus find ourselves in a situation where
- the transmission and distribution grids need to be adapted to bring the power from its source of generation to its users, including across borders
- bottlenecks hinder efficient delivery of power from where it is produced to where it is used
- transmission and distribution networks are not adapted to the new demands and require substantial investment
- traditional transmission operators are cash strapped and suffering losses, so they cannot afford to build out
On top of that, many existing transmission and distribution networks are outdated and most of the time built by domestic operators for domestic purposes driven by domestic politics. Market integration of renewable energy sources requires flexible markets, which in turn requires modern and evolved transmission systems. Import dependency, old, unsuitable infrastructure, lack of investment and the need to shift to a lowcarbon economy are some of the reasons for the Commission’s desire to overcome the fragmented energy market.
Currently, the EU has 28 national regulatory frameworks. For the internal energy market to operate in practice, a fragmented system based on uncoordinated national policies cannot continue. A solid regulatory framework is a prerequisite for the necessary infrastructure investments to happen in time for 2020.
The Commission intends to use all available policy instruments to force Member States to fully implement the Third Energy Package,7 in particular the unbundling requirements. It is difficult to see how this will interact with the desire to incentivise private investment. Only with a pragmatic implementation of the unbundling rules, coupled with efficient and transparent transmission regulation, can investors be incentivised to invest in interconnectors to any greater extent.
In order to make sure that the Third Energy Package is implemented, to reinforce the regulators’ position at a European level and to ensure cooperation of TSOs and national regulators, the Agency for Cooperation of Energy Regulators (ACER) was created. Its current powers, however, are limited to oversight and rights to propose. With the Energy Union, the Commission intends to make sure that there are regulatory bodies ensuring cooperation and implementation among TSOs and national regulators and the functioning of these bodies will be strengthened.
The Commission notes that achieving the single market requires strengthened EU-wide regulation together with significantly reinforced power and independence for ACER in the Commission’s desire to focus the fragmented regulatory regimes. In practice and with time, there can only be one central regulator overseeing the internal energy market. National and regional interests will always drive TSOs and national regulators, interests which do not necessarily benefit the whole internal market. Although not expressly stated, it seems clear that ACER will become more of an EU energy regulator than an overseer over national regulators. This makes sense. Interconnectors are inherently complex, politically sensitive and nationalistic. Without a central regulator, there will be no progress to the extent required.
Connecting the dots
The Investment Portal, to be set up in conjunction with the European Fund for Strategic Investment (EFSI)8, is intended to give investors access to information about the investment pipeline. Infrastructure investors are very diverse in terms of target returns, investment policy, geographies and risk appetite. Some look to more traditional project finance structures where the available funding means can be useful, while others look to invest in or acquire TSOs, thereby investing indirectly in PCIs.
So far, there has been a number of initiatives to promote and incentivise investment in energy infrastructure: PCIs, including the Connecting Europe Facility (CEF), EU Cohesion Policy Funds, the EIB’s Project Bond Initiative, the European Energy Programme for Recovery, EFSI and financing under the European Structural and Investment Fund.
The (currently) 248 PCIs are central to the Commission’s view to connect the EU and will benefit from promoted status, aligned regulation and centralised permitting process (cut to a quarter from 13 years to 3.5 years) and can be eligible for funding under the CEF.
EFSI, which is at the core of the Commission’s Growth, Jobs and Investment package, will mobilise at least €315 billion of investments and likely emerge as an important tool to assist in implementing the PCIs alongside the CEF.
This fragmentation and cannibalism of funding sources, combined with lack of communication and easy access to information in a transparent way, does not however incentivise investment.
The Commission now intends to pool resources to finance economically viable investments that counter market distortion and fragmentation. The Energy Union is intended to bring cohesion to the existing financing schemes – connecting the dots – to maximise impact. If successful, the fragmented pools of funds are connected, project promoters and targets seeking investment can seek advice from the European Investment Advisory Hub (Hub) to be properly prepared for investment and the projects and targets that are open to investment will be found on the EU’s Investment Portal. Properly structured, the Energy Infrastructure Forum, intended by the Commission to be set up in late 2015, can be an important facilitator to achieve this.
If properly connected, PCIs can benefit from EFSI, for example allowing grants under the CEF to support the studies during the development stage, utilising the Investment Portal for promotion and for finding investors advised by the Hub, raising a combination of public and private finance backed by credit enhancement from the EIB and support from EFSI.
The intentions are good, and if these play out as proposed, energy infrastructure across Europe will not only be in focus, but may even be where it needs to be by 2020 and beyond. This will however require defragmentation, regulatory alignment, political coherence and a will to cooperate across countries, regions, institutions, funders and governments. It is very much at the junction of regulation, politics, national interest and return on investments.
Only a few years ago, there was talk of a wall of debt. This has now changed and there is a wall of funds, however the conditions must be right for such funds to be deployed. Despite this abundance of available funding, if the conditions are not appropriate, finance will go elsewhere as resources and patience are finite.