Capacity markets: How much ‘flexibility’ for EU countries?

Back-up generation capacity was put in place in order to meet demand peaks, for example during winter. [JudithTB / Flickr]

This article is part of our special report Capacity markets for electricity.

Mostly out of pragmatism, the European Commission has adopted a rather tolerant approach to “capacity mechanisms” – national schemes that remunerate back-up power plants – accepting that EU countries face different challenges in the energy transition.

How far Europe should tighten the screw as part of the ongoing revision of EU electricity market rules remains a subject of intense debate, however.

Capacity mechanisms are meant to address “a variety of problems” and market situations across Europe, acknowledged Christof Schoser, a senior EU official overseeing state aid controls in the energy sector for the European Commission’s competition directorate.

“So there needs to be sufficient flexibility built in the legislation for member states and other authorities to design capacity mechanisms,” he told a EURACTIV event last week (4 September), supported by PKEE, the Polish electricity industry association.

A multi-year sector inquiry by the Commission’s antitrust directorate, published in November 2016, recognised that “market and regulatory failures” have prevented sending the price signals necessary to address long-term supply security concerns. Capacity mechanisms can address them, by remunerating power plants that remain on standby in case of demand peak, the EU executive said.

In Poland, a scheme cleared by EU antitrust authorities in February is meant to accompany the phase out of coal, whereas a “strategic reserve” in Germany serves as emergency back-up during the phase out of both coal and nuclear power plants, which are gradually being taken offline.

However, the need to introduce a capacity scheme must be clearly demonstrated, the Commission argued. And the price must be determined by a competitive bidding process, open to all technologies and providers in other EU countries, it stressed.

“Capacity mechanisms need to match a problem in the market and be open to all technologies and to operators from other EU countries. They must not be backdoor subsidies for a specific technology, such as fossil fuels, or come at too high a price for electricity consumers,” said Margrethe Vestager, the EU competition commissioner, when she presented the result of the inquiry.

EU throws in the towel over national energy support schemes

EU member states have pressed ahead with a variety of schemes to remunerate energy generators for keeping power plants on stand-by, despite warnings from Brussels. It now seems certain that such “capacity mechanisms” will remain a fact of life, at least for the foreseeable future.

Future market design in the making

Most importantly, the European Commission also argued that “many of these concerns could be removed” by implementing Europe-wide electricity market reforms which are now being discussed by EU legislators.

Solutions for future schemes, it said, include enabling demand-response technology – so-called “negawatts” – to participate in bids, and widening bidding zones to generators in neighbouring countries in order to make the most of existing power plants instead of building new ones.

But, as often when designing new rules, the devil lies in the detail.

Christof Schoser warned the EU’s new market design “should not be too prescriptive” or “too detailed”, saying amendments currently being discussed in the European Parliament and the EU Council of Ministers were “maybe” intended to “fit the situation of a particular member state or market”.

“For example, there is a proposal that strategic reserves should be favoured over market-wide capacity mechanisms,” Schoser pointed out, saying the Commission’s sector inquiry showed those were “two different tools” meant to address different situations.

“So we think there should not be a preference for strategic reserves,” he said, echoing criticism of Germany’s strategic reserve for coal, which Poland denounces as “double standards” because it exempts coal power stations in the reserve from market rules and environmental obligations.

This view is shared by a group of seven countries including Poland, France, the UK, Italy, Greece, Hungary and Ireland. In a joint position paper circulated last week, the group underlined that market-wide capacity mechanisms are “more appropriate where long-term adequacy concerns are identified” whereas strategic reserves “should be limited to operating in only critical situations” – in order to address short term supply issues.

Poles reject ‘totally unacceptable’ EU power market reform

A phase out of government subsidies for coal power, supported by the European Parliament under a proposed revision of EU electricity market rules, was rejected by the Polish power sector as a reflection of “double standards” in Europe because it leaves German coal plants largely off the hook.

Adequacy assessments

Another key point, Schoser said, is how “adequacy assessments” will be done in future to assess whether there are sufficient power supplies available to meet demand at any moment in time.

Under the Commission proposal, new capacity mechanisms can only be introduced if they are based on a European adequacy assessment. In the Commission’s view, the European network operators association (ENTSO-E) and the European agency for the cooperation of energy regulators (ACER) should retain “a strong role” in performing this task, Schoser said, adding he was concerned by attempts to weaken that proposal in the Council.

EU member states see it differently, however.

“Adequacy is a shared issue,” insisted Benedikt Ennser, an official in charge of energy and legal affairs at the Austrian Presidency of the EU, which steers the positions of the 28 member states in the Council of Ministers.

Speaking at the EURACTIV event, Ennser emphasised the Council’s proposal to introduce a national adequacy assessment in addition to the European one. A fundamental point raised by member states is how to finance investments in the long run, Ennser explained, which is why adequacy assessments are important to address the “the missing money issue” identified in the Commission’s sector inquiry.

“The outcome of a European adequacy assessment should not be the deciding factor in whether a capacity mechanism can operate,” the seven-country group said in their position paper. “Rather, it should be used to complement national and regional assessments,” they argued. Even ENTSO-E believes a European adequacy assessment should not replace national assessments, arguing those “will continue having better granularity”.

Which one should “prevail” in case of conflict is still up for discussion however, said Florian Ermacora, a senior official from the Commission’s energy directorate who also spoke at the EURACTIV event.

Energy companies are concerned in particular about plans to subordinate capacity payments to the results of annual adequacy assessments that may change from one year to the next. This, they warn, would create a “‘stop-go’ phenomenon” that would spook investors and undermine long-term supply security objectives.

“There is no one-size-fits-all in this area,” Ennser insisted, calling for “flexibility” in order to meet different national circumstances.

EU pins hopes on ‘regional forums’ to unlock electricity trade

A seamless pan-European energy market is still a long way off, but decisive steps can be taken now with stronger regional cooperation and the introduction of cross-border bidding zones for electricity, policymakers and industry experts argue.

50% renewables by 2030

Ennser showed less flexibility on environmental issues, however, saying the long-term objective of EU policy was to decarbonise the electricity system entirely by 2050.

“By 2030, the objective is to have about half of the electricity coming from renewables,” the Austrian official said. “But if we go beyond that, and have a decarbonised electricity system, the question is whether the market price will be able to deliver the necessary investments.”

In that respect, some of the EU’s existing capacity schemes already fare better at filling some of the EU’s sustainability criteria. In France and Greece for instance, capacity markets were specifically designed to incentivise demand-response technology, which helped offset the unavailability of thermal, nuclear and conventional capacity.

“A properly designed capacity mechanism not aiming for overcapacity systematically leads to social welfare improvement,” argues the French transmission system operator RTE, calling the French scheme “a no-regret option” in this regard.

Others are more sceptical. Florent Marcellesi is a Spanish MEP for the Green group who is shadow rapporteur on the electricity market reform. He said the Parliament’s approach to capacity mechanisms boils down to three simple questions.

  • “First, are they really necessary?” he asked. If there is no security of supply issue, then capacity mechanisms should be ruled out, Marcellesi said.
  • Second, if there is a security of supply issue, then regulators should promote other ways of addressing it – including demand-side management, energy storage, and cross-border availability of existing capacity such as renewables.
  • Finally, “as a last resort”, capacity mechanism can be looked at. But only as a temporary solution, subject to state aid approval, and if it is open to all technologies (except coal) in a competitive bidding process open to cross-border bidders.

“That is the position of the European Parliament, and I hope that will be the position of the Commission until the end,” Marcellesi said.

Capacity markets: A necessary evil in the energy transition?

Detractors of capacity mechanisms argue they are mere state aid for dirty fossil fuels that should be eliminated as soon as possible while supporters claim they provide vital back-up in the transition to renewable electricity. The fact that both are correct is leaving Europe in a quandary.

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