Liberalisation of the EU gas sector

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As the EU embarks on a third wave of energy liberalisation, some voices are warning that the gas sector must be treated with extra caution as the current proposals are causing tensions with Europe’s largest supplier, Russia.

With the liberalisation of European gas and electricity markets, consumers have in theory been able to freely choose their supplier and shop around for the best deals (see our LinksDossier).

However, there have been few new entrants to the market and most households and businesses still lack a real choice of supplier. A Commission inquiry into the energy sector, published in February 2006, identified a number of "serious malfunctions" in the market (EURACTIV 17/02/06).

In May 2006, the Commission's antitrust department conducted a series of surprise inspections of the offices of large European companies - including E.ON, RWE, Gaz de France, Distrigas and OMV - on the suspicion that they were restricting competitors' access to pipelines and gas storage facilities and engaged in "market-sharing" practices (EURACTIV 18/05/06).

The findings persuaded the EU executive to propose a third energy liberalisation package, tabled in September 2007. After lengthy negotiations, the Parliament and the Czech EU Presidency struck a compromise deal on the legislative package on 23 March 2009.

Market fragmentation and concentration

In its September 2007 proposal, the Commission cited the following problems as being "at the root of the lack of a truly internal market" for gas:

  • A high concentration rate with a few large firms dominating the market;
  • a high degree of "vertical integration" whereby a single company controls all stages of the production and distribution of gas, and;
  • market fragmentation along national lines.

The lack of market integration at EU level was partially addressed in April 2006 when the European Regulators' Group for electricity and gas (ERGEG) launched an initiative to create four regional markets for gas as a first step towards a single EU-wide market. The four regions were defined as follows:

Region Countries Lead Regulator
North West Belgium, France, United Kingdom, Ireland, Netherlands Netherlands
North Denmark, Germany, Netherlands, Sweden Germany
South Spain, Portugal, Southern France Spain
South - South East Italy, Austria, Greece, Slovakia, Hungary, Slovenia, Poland, Czech Republic Italy and Austria (co-chairs)

 

In order to move to a truly common market, the compromise agreement on the third legislative package settled on giving member states a choice of three options to foster more competition in energy markets.

1) Main regulatory option: 'Ownership unbundling'

The most far-reaching remedy was a Commission proposal to break up big energy companies altogether, referred to as 'ownership unbundling'. Under this option, member states can choose to force large integrated energy firms to sell transmission assets, such as pipelines, as a way of ensuring that competitors gain fair access to the network.

EU Competition Commissioner Neelie Kroes explained: "Owners and operators of critical networks often compete with companies that need to have access to these same networks. Can we expect such integrated companies to treat competitors in a fully fair manner? Their own self-interest would suggest not."

Under the current system of 'legal unbundling', transmission networks may still be owned by an integrated firm but need to be managed by a different legal entity. However, according to the Commission, legal unbundling is insufficient for the following reasons:

  • Network access: Legal unbundling does not solve the "fundamental conflict of interest" which arises when large integrated groups compete with companies that need access to their own networks (pipelines of gas storage facilities);
  • Information flows: Network managers will be tempted to issue sensitive information about pipeline or gas storage capacity first to the generation or supply branch of the integrated firm rather than to competitors.
  • Investments: Incumbents have an inherent interest in limiting investments in new network capacity if it brings new competition to their home market. 

2) Alternative option: Drastic regulation

Faced with opposition from France and Germany - both home to national energy champions that would likely suffer from full unbundling - the Commission came up with an alternative. Under this option, vertically-integrated firms are allowed to retain ownership of their pipelines and storage assets, but will have to hand over their management to an 'Independent System Operator'  (ISO) to be established in each member state.

During the negotiations, it emerged that the ISO option was unattractive to most member states, which opted for full unbundling or the ‘third option’.

3) The third way

EU ministers introduced the "third way" in response to the successful efforts by France and Germany to build a coalition against full unbundling. They obtained the right for former state monopolies – such as EDF and GDF in France and E.ON and RWE in Germany – to retain ownership of their gas and electricity grids, provided that they are subjected to outside supervision.

Like the ISO option, the ITO model allows integrated companies to retain ownership of their gas and electricity grids. However, they will have to give up daily management of the grids to an independent transmission operator.

Crucially, companies can retain control of commercial and investment decisions, but will have to ensure the independent operation of the transmission network by complying to certain rules, such as setting up a supervisory body and compliance programme to prevent discrimination against suppliers using the grid.

Long-term supply contracts under EU scrutiny

Long-term sales contracts between European firms and foreign suppliers of natural gas have come under intense scrutiny by the Commission which argues they act as a barrier to new market entrants buying their gas at more volatile market prices.

Integrated firms such as France's GDF have retorted that long-term contracts are essential to guarantee stable prices for consumers. Moreover, they argue that breaking up their transport and production activities will only weaken their negotiating position towards large suppliers, such as Russia's Gazprom, and eventually weaken Europe's security of supply.

However, these arguments are rejected by the Commission, which says the key to concluding long-term supply deals is "not the ownership of the network but the existence of a strong customer base". Once they are fully unbundled from the network, all gas purchasing companies will be able to compete for gas on an equal footing, it says.

A possible 'blueprint' deal was reached in 2007 when Belgium's Distrigas agreed to limit its long-term gas supply contracts. The Commission told energy firms they can avoid future antitrust cases by following Distrigas's example (EURACTIV 12/10/07).

Investment reciprocity: The 'Gazprom clause'

A reciprocity clause - quickly dubbed the 'Gazprom clause' - was inserted into the Commission proposal in response to fears that ownership unbundling would lead to the acquisition of strategic EU energy transmission assets by foreign companies (EURACTIV 20/09/07).

Under the clause, foreign companies would need to comply with the same unbundling requirements at home before making acquisitions in the EU. The conditions would be laid down in a bilateral agreement, a move which could help relaunch negotiations with Russia over a wide-ranging Partnership and Cooperation Agreement (PCA) which remains stalled for now.

The final agreement states that member states must refuse to certify a company from a non-EU country if it is deemed to "put at risk the security of supply of the member state and the Community". The text gives sufficient scope for the individual countries to decide whether to let a third-country company onto their market, citing their right to protect public security interests.

Gas: A geopolitical commodity

According to estimations from Eurogas, the European natural gas trade association, the EU 27 covered 38% of its gas needs with its own production, mainly from the UK and the Netherlands (2007 figures). The EU's principal external suppliers are Russia (23% of final EU consumption), Norway (18%) and Algeria (10%).

However, the situation varies widely throughout the EU, with Central and Eastern European member states often heavily dependent on Russian imports. This is the case for Austria, Bulgaria, Slovakia and Greece, but also the Baltic states and Finland, where Russian dependency can reach 100%. Others, on the other hand, import no Russian gas at all. These include Belgium, Ireland, Portugal, Spain, Sweden and the UK (see BBC overview).

Diversifying supply: New LNG terminals and pipelines

Unlike oil, which can be transported easily in tankers, gas is still transported mainly via pipelines, making Europe dependent on existing supply and transit routes.

The need for Europe to diversify supplies was underlined by a dispute between Ukraine and Russia in January 2006, which led to interruptions to supplies of Russian gas for some EU states (EURACTIV 18/01/06). Some 80% of Russian gas is transited through Ukraine. In the wake of the dispute, EU states agreed to speed up a number of projects, including:

  • The Nabucco pipeline, which will give Europe access to large gas fields in the Caspian region and the Middle East.
  • Building new terminals for Liquified Natural Gas (LNG) that can be transported by ship to regions where pipeline connections are not feasible.

The dangers of insufficient grid connections were again highlighted in January 2009, when Russian energy giant Gazprom cut supplies to Ukraine over a payment dispute (EURACTIV 14/01/09).

Access to gas storage

Finally, the Commission insists that information transparency rules on pipeline availability should be extended to gas storage facilities as well in order to guarantee better access to all competitors on the market.

In an impact assessment accompanying its September 2007 proposal, the EU executive noted that "competition in the gas sector is limited by the availability of storage, which is often in the hands of the incumbent companies". Although the Commission considers that gas storage facilities, unlike pipelines, are "not a natural monopoly," it says specific rules should apply to that market. These, it said, should strike the right balance between "the need for effective access [while] maintaining incentives for new storage developments".

However, it considered that building up strategic gas stocks to deal with potential supply disruptions, as is the case for oil, would be too expensive and technically difficult at the moment. 

In an explanatory statement accompanying its September proposals, the European Commission insists that ownership unbundling should apply to gas as well as electricity as "the fundamental conflict of interest" between energy generation and transmission "applies equally to both sectors".

However, in a report for the European Parliament, Italian MEP Romano Maria La Russa (ALDE) says a distinction should be made between the two, given the EU gas sector's dependence on external suppliers and its reliance on multi-annual supply contracts.

"We must not forget the circumstances of the new member states which, having inadequate, or sometimes non-existent, infrastructure, are totally dependent on third-country operators for their gas supplies," writes La Russa in his draft report.

"Long-term supply contracts should be protected," he maintains, because they do not give foreign suppliers control over the network. La Russa therefore believes member states should be given the freedom "to promote agreements which help to improve the production and distribution of energy whilst ensuring that final consumers benefit and investments are profitable".

In addition, he says exemptions from third party access to gas storage facilities should be granted only if they help boost investment in new infrastructure, such as re-gasification plants and gas storage plants.

Atanas Paparizov MEP (Bulgaria, PES), Parliament's rapporteur on the Commission's proposal regarding "conditions for access to the natural gas transmission networks," believes the emphasis should be placed on regional co-operation. In a Parliament debate on 28 February, he insisted that the EU should help develop connections to so-called 'energy islands'. These include in particular the Baltic states and Finland, which are isolated from the wider EU gas transmission grid.

Eurogas, a trade association representing national gas industry groupings as well as individual companies including France's EDF and GDF, Gas Natural of Spain and RWE Gas Midstream in Germany, aired its doubts over the Commission's ownership unbundling plans. In a statement, it said "other feasible solutions may exist" to achieve a more integrated EU gas market, adding that the ISO option is "a possible alternative to be studied".

"Any future legislation should aim at a well functioning internal market and at preserving the ability of energy companies to become globally competitive, to invest and to determine their portfolios and their long term strategies," Eurogas said in a statement. "In this respect, Eurogas sees the need for EU external policy to support dialogue and partnership under a general umbrella of reciprocity with producing countries."

Gaz de France, the French state-owned group, stepped up its criticism of 'ownership unbundling', describing the proposed measure as "inefficient" and "dangerous".

Didier Sire, head of the strategy division at Gaz de France, said the proposal "does not resolve the real issues" such as the lack of regulatory and market integration at European level.  Moreover, Sire said unbundling would "not guarantee future investments" in new network capacity which would be made by GRTgaz, a subsidiary of GDF, "regardless of its ownership status".

But Gaz de France's criticism was strongest on the foreign relations front, with Sire describing ownership unbundling as dangerous for Europe's security of supply. "This is a decision that risks deteriorating supply security," Sire warned. "Ownership unbundling is a dangerous proposal [that could lead to] a strategic mistake if national specificities are not taken into account."

However, Sire's comments appear to be at odds with those made by Gazprom, which considers unbundling to be a potential threat to its European ambitions. Speaking in December 2006, Alexander Medvedev, Gazprom's deputy CEO, lashed out at the Commission's plans, saying that "the ghost of Communism is back with all the attempts to take ownership of infrastructure and divide it".

  • 19 Sept. 2007: Commission tables third energy liberalisation package (EURACTIV 20/09/07).
  • 13-14 March 2008: EU summit agrees to reach political agreement by June 2008.
  • May 2008: Vote in Parliament's Industry (ITRE) and Internal Market (IMCO) Committees (EURACTIV 7/05/08).
  • 14 May 2008: Commission and EU Presidency holder Slovenia table compromise proposal for gas (EURACTIV 16/05/08).
  • 19 May 2008: Parliament ITRE Committee vote on La Russa report (Directive on internal market for natural gas).
  • 6 June 2008: Energy Council reaches broad political agreement on the Commission's third liberalisation package.
  • 9 July 2008: Parliament plenary in first-reading vote backs third way ITO option for gas but rejects ISO option, paving way for agreement with Council.
  • 12 Jan. 2009: EU Council of Ministers adopts common position on third energy liberalisation package.
  • 23 March 2009: Parliament and EU states reach agreement on the third energy package (EURACTIV 25/03/09).
  • 22 Apr. 2009: Parliament endorses compromise agreement (EURACTIV 23/04/09).
  • 25 June 2009: Council adopts internal energy market package.

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