Following the public consultation held from 23/01/2023 to 13/02/2023, and during which Member States positioned themselves between two clearly defined sides, with radically opposed views (see our Newsletter from March: Electricity market reform (Part 2) : liberals strike back), on March 14^th 2023, the European Commission published its initial proposal for the reform of the electricity market[1]. In the light of this first paper, it seems that the liberal side emerges victorious. The Commission’s proposal, which we shall describe below, rejects a deep structural change of the market, and merely focuses on proposing some improvements to reduce the volatility of prices borne by end-consumers and promoting the deployment of renewables.

In response to the energy crisis that the European markets have been experiencing in 2021 and 2022, the European Union has been implementing transitional measures such as:

1. In October 2021, an energy prices toolbox to address high prices with income support, tax breaks…
2. In March 2022, temporary state aid regimes to allow certain subsidies to soften the impact of the high energy prices.
3. In May 2022, the REPowerEU, with a set of measures deemed to reduce our dependence from Russian fossil fuels by enhancing energy efficiency and speed up the deployment of renewables (see our Newsletter from June 2022: REPowerEU: “green” and economic cost at stake?)

However, several shortcomings of our electricity market had already been exposed. The European Commission refers to the main ones as being (i) electricity prices with an extreme influence from fossil fuels prices and low presence of low-cost renewable energy prices in the bills, (ii) lack of protection to final consumers against price volatility, (iii) distortion in investments generated by high volatility and interventions. Additionally, there is a lack of: (iv) non-fossil flexibility, (v) supply contract choices for customers, (vi) access to energy sharing and (vii) quality monitoring of the market against market abuse.

To face some of these deficiencies of the current market design, the EU Commission, in its paper “Electricity Market Design revision: Proposal to amend the Electricity Market Design rules (COD: 2023/0077)” proposes the following:

1. For the extreme influence from fossil fuel prices in consumer bills:

• In the intraday market, the gate closure time should be set closer to the time of delivery to increase liquidity and better integrate variable renewables.
• In the short-term electricity markets, lower the minimum bid size to allow the participation of small-scale flexibility service providers.
• Enable TSOs (Transmission System Operators) to procure peak shaving products so as to maximise the integration of the demand side response.
• Implementation of regional virtual hubs, each with its own reference price index that ensures an adequate correlation of prices from different bidding zones, to increment liquidity and improve against market fragmentation.
• Offer long-term transmission rights, allocate cross-zonal capacity on a regular basis, and offer trading of the financial transmission rights with frequent maturities (from month-ahead up to at least 3 years ahead).
• Allow market operators to offer forward hedging products accessible to market participants.
• Offshore renewable energy plants shall have priority to access revenues from congestion income.

2. For the lack of protection to final consumers against price volatility:

• Enable consumers to have more than one contract simultaneously (fixed and/or dynamic), increase consumer choices and clarity in contracts.
• Encourage energy sharing among consumers (collective consumption of self-generated or stored electricity injected into the grid by more than one jointly acting active customer).
• Ensure that suppliers implement adequate hedging strategies to limit risks of volatility in their contracts and protect final consumers.
• Member States should be obliged to appoint a supplier of last resort for consumers to protect them against disconnections in case of supplier failure.
• Allow public interventions in price setting during periods of crisis. The European Commission should determine when such a crisis exists, and the interventions shall have specific restrictions or constraints.

3. For the distortion of long-term investments:

• Enable access to long-term PPAs for smaller customers thus protecting them against its associated financial risks.
• For new investments[2] in wind, solar, geothermal, hydropower with reservoir and nuclear, implement public support schemes in the form of 2-way contracts of differences, where the revenues from a surplus are distributed between final customers based on their share of consumption.

4. For the lack of non-fossil flexibility:

• In the absence of smart metering systems, allow TSOs to use data from dedicated metering devices for the observability and settlement of demand response and flexibility services, including from storage systems.
• Add features to capacity mechanisms to enhance the participation of non-fossil flexibility such as demand response and storage. Where there is not a capacity mechanism, implement payments for the available capacity of non-fossil flexibility.

The reform of the electricity market is undoubtedly needed. Even though this initial proposal is far from being the ultimate solution, it sets its focus on some key points which the market had to regard sooner or later.

Our electricity market, as it currently stands, was designed at a different time, in a context of overcapacity that required the correct short-term signals in a stable prices’ environment with low fixed costs technologies. The current situation is far from the initially designed situation. The energy mix is rapidly shifting towards low marginal cost renewable generation, while reserve margins are disappearing. The current crisis has provided a snapshot of the extreme volatility of the electricity market. In the future, with a higher share of renewables, we will be constantly moving from zero, even negative prices to very high values. To avoid this stress on both consumers and producers, efficient long-term mechanisms should be implemented without affecting short-term price signals, which otherwise work well. This is exactly what the Commission is looking for with its proposal.

The next step is an agreement between the Member States, the European Parliament, and the Commission itself. Discussions have already begun and, as was expected, reaching a consensus among the different countries will not be a piece of cake.

During a meeting held on March 29^th by Member States’ energy ministers, some countries have already expressed their disagreement with the Commission’s proposal of having 2-way CfDs (Contracts for Difference) with the prices fixed by public entities as the sole direct public aid to investments in renewable energies. On the one hand, Spain, the Netherlands, Belgium, Denmark, and Luxembourg see a problem in bearing the resulting deficit when market prices do not reach the reference levels of the CfDs, especially considering that, when prices are higher, the surplus is redirected to final consumers. For its part, Germany believes that using these CfDs could add rigidity to the market. Finally, Austria, in opposition to French interests, is against the possibility of nuclear generation participating in this type of remuneration scheme. In the light of these first impressions, it seems that the Commission should allow more freedom to public entities in the implementation of support measures for investments in renewables.

While we can only wait and see what the final outcome of the market reform will be, we can already conclude that the balance leans more in favour of the liberal faction. The Commission’s proposal rejects crossing some limits, such as modifying the marginal structure of the electricity markets, which seems adequate for the short-term, and prefers to focus on enhancing consumer protection and long-term market improvement to provide better investment signals and reduce volatility.

It will be interesting to see how future discussions develop, what the final official form of this initial proposal will look like and how the different Member States will decide to comply with it. From Haya Energy Solutions, we will keep you updated on this matter.

Guillermo Llanos Macias

[1] Proposal for a regulation of the European parliament and of the council

[2] These new investments would include investments in new power generating facilities, repowering existing ones, extending them, or prolonging their lifetime.