The EU Commission has released a communication on EU energy policy 'Delivering the internal electricity market and making the most of public intervention' (the "Communication"), which seeks to stimulate discussion with Member States on the role of feed-in tariffs and other renewable subsidy schemes, capacity markets and grants or tax exemptions, in domestic energy markets.

The document is a pre-cursor to the imminent release of revised draft State aid guidelines on environment and energy for the period 2014-2020.

  1. BACKGROUND

The Communication states that the internal electricity market for Europe is not an end in itself, but rather required to achieve the objectives of the Union policy on energy, including:

  • secure and competitively priced supplies;
  • renewables and climate change targets to 2020 and beyond; and
  • a significant increase in energy efficiency across the whole economy.

The Commission accepts that there is a need  for  some public intervention in electricity markets in support of these policy aims and that Member States have – to varying degrees – intervened in the energy markets with a number of different tools and instruments, including tax breaks, fees and levies added to consumer bills and direct subsidies, some of which fall under the EU law definition of State aid.

The Commission believes that the case for reviewing public intervention in the electricity market in particular is strong at the moment as it has a significant influence on the costs of producing electricity and the price charged to the end consumer. The Commission notes that retail electricity prices in the EU are currently often higher than elsewhere in the world, and that they have increased over the last decade in real terms. The Commission lists high and increasing taxes and levies on the final electricity price in addition to network and fuel costs as the reasons for the current level of EU electricity prices.

The Commission also argues limited competition  and  the occasional ineffective public intervention have a significant (negative) influence on the internal electricity market, in particular when an intervention is implemented without using  the opportunities  offered by the internal electricity market, with disregard to other policy objectives or without considering potential solutions on the demand side.

A central theme of the Communication is the increasing integration of national markets and the resulting interdependence of national markets. Whilst this renders it possible to exploit the synergies and economies of scale of the internal electricity market, the Commission notes that public intervention in one country affects prices not only nationally but also in neighbouring markets. The Commission also notes that any resulting distortions of the internal electricity market can be both short-term (affecting system stability, spot market prices and electricity production), and long-term (crowding out investments in new capacity or diverting them to sub-optimal projects).

The Communication acknowledges the need for a strong regulatory framework at EU level in order to achieve the internal energy market - together with adaptation at regional, national and local level. The Commission invites the relevant national authorities to take into account the mutual interdependence that comes with being part of the internal electricity market when designing public intervention.

  1. THE COMMISSION'S APPROACH

The Communication emphasises the need to define the role, level and nature of public intervention, in line with the principle of subsidiarity, at Union, regional, national or local level.

Where public intervention is defined at regional, national or local level, the Commission invites Member States to ensure consistent approaches across the whole Union.

The Commission outlines the range of public interventions as including:

  • State aid to certain sectors in the form of grants or exemptions from taxes and charges;
  • the imposition of "public service obligations"; and
  • regulation through general measures.

Within these are included renewable support schemes, capacity mechanism and grants and subsidies for fossil fuel and nuclear plant.

The Commission considers the three key objectives of EU energy policy need to guide any discussions on public intervention in the electricity market (and equally the gas and heat markets):

  • secure and competitively priced supplies;
  • 2020 climate change targets; and
  • increased energy efficiency across the whole economy.

As a general point, the Communication encourages Member States wishing to intervene in energy markets to:

  • identify the problem and justify public intervention - demonstrate that the internal electricity market functioning on the basis of the existing body of Union law is unlikely to solve it;
  • evaluate alternative options - the Commission wants to promote demand side response and energy efficiency measures as well as consideration of whether interconnectors or other cross-border solutions can be used to ease capacity constraints;
  • consider long term contracts as an alternative to capacity schemes - the Commission considers that Member States might promote long-term contracts for constructing new power plants directly between generators and future consumers (provided the contracts are in line with the applicable rules of competition law) rather than otherwise grant subsidies for new capacity, or maintain inefficient and polluting old generation capacity;
  • adopt a holistic approach during design of the intervention – the Member State should take into account the three key objectives (set out above) while ensuring that any public interventions are deployed in a coordinated manner; and
  • proportionate intervention - ensure that the intervention is proportionate, namely that it addresses its objective appropriately, going no further than is necessary.

The Commission emphasises the importance of good design when forming intervention policies, warning that poorly designed interventions will distort the market and lead to higher prices.

  1. KEY AREAS ADDRESSED

Renewables

The Communication highlights the need for support schemes for the renewables sector to evolve and wishes to explore further "Europeanisation" of the national schemes. It points out that support schemes designed when the sector was in its infancy may no longer be appropriate, and need for schemes to mature in order to foster the next generation of renewable sources. The Commission calls for greater influence of market forces and a shift away from guaranteed price levels determined by public bodies, ie schemes should supplement market prices rather than replace them. The Commission hopes that this approach will help lead to:

  • the phasing out of feed-in tariffs which shield producers from market signals; and
  • a move towards feed in premiums and quota obligations.

However, the Communication warns against retrospective changes to existing schemes which would frustrate the legitimate expectations of investors, erode investor confidence and ultimately reduce investment in the sector.

The Commission also invites Member States to support renewables through genuinely competitive allocation mechanisms such as tendering procedures and a greater use of cooperation mechanisms between Member States, such as the joint support scheme between Norway and Sweden .

Generation Adequacy

The Commission recognises difficulties faced by generators posed by the current electricity market conditions.

Specifically, the Commission notes that the considerable cost of financing upgrades, volatile electricity markets, and regulated retail prices and wholesale price caps in some Member States all contribute to a reduction in profitability for generators, which has led some Member States to consider new support schemes for investment  in  new electricity generation capacity or to remunerate existing plant to remain operational (such as the proposed GB Capacity Market). The Commission considers that those  measures  should  not result  in  inefficient plants being artificially kept in operation through public support, or in unnecessary new generation capacity being built.

The Communication reminds Member States that the objective of phasing out fossil fuel generation subsidies by 2020 must be taken into account – and adds that to minimise distortion of the internal market, there should be no export charges or procedures to reserve electricity for the domestic market.

Demand Response Measures

The key point stressed by the Commission in terms of demand response is the potential for a greater role for all types of consumers in the market.  Two examples of incentives for increasing this involvement are given as the removal of tariff elements that hamper active market participation and the development of dynamic pricing, ie, billing based on wholesale price signals.

  1. THE IMPACT OF COMMUNICATION

The issues addressed in the Communication are not covered by current EU legislation. Issues relating to market design beyond general principles of market liberalisation and an emphasis on renewable energies are not covered in the Third Energy Package or the 2009 Climate Change Package.

The Communication now suggests that the Commission are trying to exercise a greater degree of control as to how the 28 EU Member States are shaping their energy markets. Currently, every Member State has its own approach and policy for their energy market, albeit that at a technical level, due to market coupling mechanism, regional electricity markets are fast emerging.

The Communication has therefore a greater significance and influence than its form would suggest. Given that the Commission is currently revising its guidelines on State aid for the environment and energy and explicitly referencing these (which it aims to publish in draft by the end of this year for final adoption in 2014), it is likely that the Commission is hoping to use the revised State Aid rules as a lever for greater control over energy market design in Member States. This may create tensions as Member States will continue to prioritise investment and jobs in their jurisdiction over a harmonised design of the internal energy market.

In addition to influencing the position on State aid, the Commission has also indicated that it will take the results of the debate on this Communication into account when considering changes to the existing body of Union law relating to the internal electricity market.  To further inform this, the Commission is considering comparative costs across the EU as part of its analysis for the drivers of energy prices, and expects to have completed an in-depth study on the full costs of, and subsidies given to, the various technologies in the electricity sector by June 2014.

Whilst the Communication does not express a view on any particular public intervention in any Member State, it is likely that the principles outlined in the Communication will form part of the criteria the Commission will use to assess whether public intervention in the energy market by Member States constitute State aid. Whilst the measures discussed in the Communication in relation to demand side management seem relatively light on detail, the suggested move towards feed in premiums and quota obligations for renewable energy represents the opposite to the approach proposed for the GB market as part of the electricity market reform.

It is clear that any proposed support schemes will require detailed justification, with due consideration given to whether further demand side and/or EU integration measures (such as additional interconnectors or cross-border flows of renewable energy) would reduce the need for national action.