To deal with the current instability in energy prices and accelerate the green transition, there is a need for a central energy authority acting similar to modern central banks in money markets, argues Mike Parr.
Mike Parr is the founder of PWR, a consultancy specialising in power systems.
The dramatic rise in gas prices from circa €20/MWh earlier this year to the current €60/MWh impacts electricity prices (see table) because most EU member states still have some gas-powered generators. For example, such generation accounts for 7% of output in Germany through to 20% in Spain.
Electricity wholesale prices, which usually vary between €30/MWh and €50/MWh, are now in the range of €100/MWh to €200/MWh. This rise will, inevitably, feed through to a rise in retail prices paid by consumers.
Politicians have reacted with concern to these events. The Spanish sent a letter to the European Commission urging the EU to take action. The annexe argued for reform of the wholesale electricity market. The paper hints at some understanding of where the EU stands in the energy transition and the impacts this could have on price.
However, it fails to see the bigger transition picture, and its proposals address symptoms rather than causes of the current energy market failure.
In an article published by EURACTIV in January this year, I argued for urgent market reform on the basis that electricity markets as currently constituted are inherently unstable (small changes in inputs cause very big changes in price). Later in the year, the need for urgent reform was proposed to a very senior energy regulator. The latter refused to acknowledge the need for urgent reform.
Summarising our argument (see the earlier article for detail), electricity markets and thus electricity prices are unstable because the EU is transitioning from a fossil-based system to a renewables-based system.
For example, if there is a large amount of renewable electricity being generated (relative to fossil electricity), electricity prices will trend lower because renewables have zero marginal costs. Despite the fact that both Spain and Germany in 2020 were good examples of this instability, the argument was dismissed by the energy market regulator.
Current events show the reverse is true as well: when gas prices and ETS prices rise, the pricing of gas-powered generation comes to dominate the market even though gas generation accounts for a very small part of generated electricity. This is another example of an unstable electricity market.
The solution to this situation has several parts:
First, EU member states need to dramatically accelerate the construction of renewables at all scales from large off-shore wind down to small-scale citizen-owned local energy systems, where the latter would also need a reform of electricity charges on locally generated electricity and hydrogen. Without such an acceleration, the EU will remain stuck halfway, failing to enjoy the benefits of low-cost renewables and suffering the high costs due to oscillating gas prices. Understanding this point, EU organisations representing the wind and solar sectors have also called for this acceleration.
Second, the build out of renewables needs to be linked to green hydrogen production and storage. Renewables are stochastic. No electrical system can function in a stable fashion with only stochastic production and statistical load. What is needed is deterministic storage. Hydrogen and a re-purposed gas network can provide that quickly.
Third, there needs to be (yet another) reform of the EU energy market. This is due to the fact that in the 2018 reform, a higher share of renewables was taken into account, but the basic model remained the fossil-based model. The consequences of a switch to stochastic supply (from renewables) was never factored into the old model.
In spring 2020, Dr Stieber, an economist working for the European Commission, pointed out to me that, to align the ambition of the Green Transition with the laws of physics which apply to the renewables world, there is a need for a regulated wholesale market with a central energy market authority acting similar to modern central banks in money markets.
Equipped with a credible threat of virtually unlimited purchasing and selling capability, forward guidance in such a regulated wholesale market could prove critical to avoid boom-bust cycles in renewables that would only add further volatility to wholesale/retail energy prices with all the economic and political ramifications this entails.
Dr Stieber noted that such a “central energy bank” (CEB) could not only achieve the short-term political objective of avoiding highly volatile energy prices, it could go some way to supporting the investments needed for at least a doubling of renewable construction compared to current baselines.
Furthermore, the CEB proposal would come on top of and not replace the many incremental improvements and efforts to increase energy efficiency and drive down fossil fuel use in the EU. It is the missing game-changer which will deliver on emission targets which cannot be missed. If we need an ECB for the Euro, we need a CEB for European energy.
A rapid exit strategy from fossil fuels in a manner that respects EU principles of free enterprise, solidarity and excellence in governance is the sine qua non for the Green Energy Transition.
The CEB proposal paves the way for large renewable energy providers to be more ambitious in their investment planning, accelerates investment at the edge of the network, supports the technical ingenuity of world-leading EU industries and invites local, national and EU innovators, including legislators, engineers and financiers to participate in the transition.