How to reconcile the different interests in the “Fit for 55” package?

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Wojciech Dąbrowski. [PGE]

This article is part of our special report EU carbon market reform.

Though all Member States backed EU’s higher target of a net domestic reduction of greenhouse gases emissions by at least 55% until 2030 compared to 1990, recently proposed regulatory solutions may deepen a division between countries, when it comes to the method of implementing new targets.

Wojciech Dąbrowski is the President of the Management Board of the PGE Polska Grupa Energetyczna S.A.

Right now, we can observe a different perspective between the Western Europe, clearly on its pathway to fully decarbonise the power sector well-before 2030 and does not have to look for alternatives for solid fossil fuels in district heating systems and the Eastern part of the continent, still facing tremendous challenges in power and heating sectors alike. That clash of interests will result in a long-lasting legislative battle to be fought in a few years to come.

However, business decisions on how to adapt to the new climate target made by energy utilities cannot be postponed to the mid-twenties. Otherwise, there will not be enough time to make a real difference until 2030. Therefore, we need to find a right balance of interest throughout the legislative process regarding the “Fit for 55” package and especially the EU ETS reform to avoid a social disaster.

The costs of the achievement of carbon neutrality by 2050 for Polish households will be enormous. The investments in new generation and energy storage units alone will require Polish households to spend an additional EUR 110 billion if we receive no additional EU funds to complement it. [1] It is the amount of lost consumption by households as compared to business as usual. This is because to achieve those targets we need investments and someone has to pay for them.

How to achieve the new 55% emissions reduction target?

The new target should be achieved through fair-burden sharing between sectors and between Member States. It should be achieved by ensuring that distributional effects of the costs of this transition are spread among Member States proportionally to the capacity of individual citizens to finance the transition. It is the controversial Commission’s choice to put more burden on ETS sectors that is unnecessarily heavy and cannot be justified by the need for the EU to become carbon neutral by 2050.

The Commission’s proposal to combine the increased linear reduction factor of 4.2%, so far above today’s level of 2.2%, together with an additional one-off cap reduction and further changes to the market stability reserve design parameters would result in rising EU ETS allowances price volatility. With such a steep LRF of 4.2% it means that there will be no EU ETS allowances left in the system by 2040.

If we already have an increased LRF of 4.2% why do we still need to strengthen the MSR to achieve the same objective? Linear reduction factor (LRF) alone is enough to drive down the emissions to the required reduction level. Artificially introducing different thresholds for market stability reserve (MSR) makes little sense since MSR reform has little impact on the achievement of the reduction targets. On the contrary, maybe the best way is to actually relax these thresholds and let more allowances stay on the market or return into the market given the recent carbon price surge as well as foreseeable market shortage in the future?

What is needed to avoid multi-speed Europe in terms of climate ambitions?

Huge investment challenges associated with the implementation of the higher climate ambition are ahead of the European Union. The distributional effects of these increased investments within individual Member States will also require careful examination. The overall effort will be inevitably higher in the ETS sectors due to avoiding the negative social impacts for citizens, namely in buildings and transport sector. Otherwise, protests like yellow vests in France are unpreventable. However, what needs to be also recognised is that the same protests would happen if too much burden was placed on the ETS sectors. For countries still based on coal, where huge societal and economic changes will be needed to implement the new target, it remains a really vital risk. This is why more EU funds are necessary to alleviate this investment effort.

We need to reassure our customers and local communities that there will be enough EU support to make sure that they will never be left behind. This can be done if those funds for energy transition in Member States with different starting points are sufficiently increased. By acting together in the spirit of solidarity we can achieve EU’s objectives of decarbonisation.

Why does it matter for energy industry?

PGE stands for a decarbonisation at the fastest feasible pace without losing our investment funds on operational expenses associated with the purchase of emission allowances to comply with the EU ETS. Last year we spent about EUR 1.8 billion on allowances alone, generating almost 10% of the revenues at the EU ETS market. This translates directly to limiting our capabilities for new sustainable and green investments, since we need to cover the carbon costs in the first place. Even in the light of these operational costs, we cannot simply shut down our conventional plants due to security of supply reasons in order to avoid truly critical situations.

The higher CO2 price can only drain our funds and capacities to invest in low- and zero-emission energy sources in the future but it cannot speed up our investment plans even further as they are already very ambitious. PGE Group intends to build 2.5 GW of new capacities in offshore wind farms, 3 GW in photovoltaics and expand the portfolio of onshore wind farms by at least 1 GW by 2030.

Today’s prices are already enough to make the fuel- switch. This is why we need an effective policy in place to avoid uncontrollable price growth at the end putting intolerable burden on our customers.

What is needed to find an equilibrium?

Among the Member States, Poland has the biggest investment challenge and at the same time the highest imbalance of allowances, meaning that the Polish companies have to buy EU ETS allowances in a number exceeding the Polish auctioning pool and financing budgets of other Member States. It clearly requires a correction so that Poland has enough own resources to finance its own transition. For that reason we believe that the Modernisation Fund should be increased significantly and proportionally to the new climate commitments to respond to these challenges and address the problem of imbalances between Member States accordingly.

We acknowledge the fact that the Commission’s proposal intends to increase the Modernisation Fund, being the consequence of the carbon pricing extension to transport sector and buildings. However, it remains uncertain if the new allocation is proportionate to the new commitments and modernisation cost in energy, industry, transport and residential sectors. We regret that the Commission has not decided to use allowances transferred to the MSR to the Modernisation Fund, otherwise they would be cancelled. This mechanism would not affect national allocation pools of the Member States and in result emission allowances prices.

In our view, to tackle the problem of imbalances is to increase significantly the Modernisation Fund or use MSR allowances. We also ask for maintaining the possibility to finance gas investments under the Fund as a sign of recognition for our specific needs. Deploying natural gas-fired high-efficiency cogeneration plants in district heating systems remain the only viable solution for Poland to boost withdrawal of coal and switch to less emitting gas as a transitional fuel on the way to carbon neutrality. It would also facilitate improving air quality and limiting the increase in energy poverty.

We believe that only with these measures, we can achieve the balance in the EU ETS and in result a fair and just transition so important for our electricity and heat customers.

The PGE Capital Group is Poland’s largest energy sector company with respect to sales revenues and net profit providing for a safe and reliable power supply to over 5 million households, businesses and institutions. PGE is actively contributing to the growth of a zero- and low-emission economy in Poland and declared to deliver 50% green electricity by 2030 and 100% green electricity by 2050.

[1] https://climatecake.ios.edu.pl/wp-content/uploads/2021/07/POLAND-NET-ZERO-2050.-The-roadmap-toward-achievement-of-the-EU-climate-policy-goals-in-Poland-by-2050.-Summary_FINAL.pdf

CAKE (KOBIZE) Analysis: Poland Net-Zero 2050: It must be emphasised that the energy sector capital costs reported in this study include only investments in new generation units (including those that reserve capacity) and energy storage. They do not include expenditure related to the expansion and modernisation of the transmission and distribution network (both electricity and heating), or the modernisation of existing generation units – so the full investment costs in the energy sector necessary for the implementation of the low-emission transformation will be even higher. In the NEU scenario, the total expenditure in the energy sector in the period 2021-2050 will be at the level of ca. 295 billion EUR. These expenditures are almost 60% higher than in the BAU scenario (ca. 185 billion EUR). Thus the extra expense that will have to be financed by citizens’ from their own pockets is 100 billion EUR.

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