Brussels, 23 July 2024
The European Union’s Electricity Market has long been a key component of Europe’s energy system – designed to ensure a reliable energy supply across the continent. However, the system is not without its challenges and criticisms. The past few weeks of French political chaos in particular has injected new rhetoric into the conversation.
Specifically, there have been recent calls from the French far-right to leave the market altogether and decouple French electricity prices from gas opting instead for a regulated electricity price. Such discussions take place at a time when the electricity market design reform has just entered the Official Journal law after two years of intense negotiations.
The agreed reform resulted in well-balanced market design according to the electricity industry.
On the eve of the official adoption, Eurelectric’s Secretary General Kristian Ruby said:
“In the end, we are pleased with the outcome of the electricity market reform. In particular, we are pleased that we preserved a truly European internal market. Through maintaining short-term wholesale markets based on marginal pricing, we preserved also an efficient functioning power system. We rightly focused on improving long-term hedging and contracting opportunities.”
Yet, this is not the time to rest on one’s laurels as there is still room for improvement. Europe’s forward markets and flexibility solutions need to be further integrated in order to strengthen the market’s resilience against excessive price volatility. Such developments should be addressed via smart implementation rather than drastic overhauls that will cause more problems than they solve by frightening away much-needed investment. This message was made loud and clear at the market design panel discussion which took place at Eurelectric’s Power Summit Lights ON.
The panellists shared powerful insights as they explored post-reform current and future challenges emphasising the need for thoughtful improvements rather than implementing untested and radical solutions.
Before looking at the future of our electricity market, let’s recall how the current market design came to be.
State of the European Electricity Market
In the early 20th century, electricity systems across Europe were primarily dominated by state-owned and vertically integrated companies, i.e. a single entity controlling the entire value chain from generation to distribution. Such a setup prioritised the reliability of electricity supply over competition and market efficiency.
However, in the 1980s and 1990s, the Commission initiated liberalisation efforts (CITE) to introduce competition, enhance efficiency, and create a single liberalised electricity market. This led to significant reforms, including the unbundling of generation, transmission, and distribution activities, paving the way for a more efficient and market-driven system.
Liberalisation has reduced monopolistic behaviours and facilitated cross-border electricity trade. This has not only improved the security and reliability of supply across member states but also the overall functioning of the market itself. The system that arose from this reform is a competitive, efficient and integrated market for electricity. Yet, its numerous benefits often tend to be overlooked and taken for granted.
Paddy Hayes, CEO at the Irish electricity utility ESB observed that although the market is far from perfect, it has demonstrated resilience during crises by providing clear price signals. “The system tries to solve for congestion in the lowest cost way,” noted Hayes, emphasising the market’s role in maintaining stability during turbulent times such as the COVID-19 pandemic and Russian aggression of Ukraine.
Market Design Principles
Maria da Graca Carvalho – Portugal’s Minister of the Environment and Energy and former EPP negotiator on the review of the electricity market design – outlined the key principles that guided the design of the market:
- Placing energy consumers at the centre by enhancing protection mechanisms and empowering them to actively participate across different electricity markets.
- Incentivising investments by encouraging better and wider use of long-term contracts and hedging instruments such as power purchase agreements (PPAs) and two-way contracts for differences (CfDs).
- Strengthening the internal energy market via efficient grid development, and further investments in the networks and related infrastructure, as well as capacity mechanisms to ensure security of supply.
Challenges Facing the Market: volatile prices and investors
One of the current challenges mentioned throughout the panel is the mismatch between its current regulatory framework and the evolving needs of the market. Mara Berzina, Secretary General at the Council of European Energy Regulators (CEER), highlighted that the existing regulations have not adequately addressed emerging issues.
“European regulators have observed that current legal frameworks have been inadequate in addressing current and future challenges,” Berzina noted, stressing the importance of updating regulations to keep pace with market developments and that “strong and independent regulators are crucial players in the energy transition as providers of expert advice and independent decisions,” further adding that “we need multi-sectoral planning, at least at the EU and national [levels].”
However, it is important to understand that further reform will cause more harm than good. At an event hosted by Euronews, Eurelectric’s President and E.ON CEO Leonhard Birnbaum, in conversation with Ann Mettler – Vice-President at Breakthrough Energy – and Enrico Letta – President of the Jacque Delors Institute and former Italian Prime Minister – highlighted that every time one begins to subject the market design to any change, or even suggest a potential change, people stop investing.
There is nothing like uncertainty on the future of market rules to discourage investments.
Another critical challenge discussed during the panel was the volatility of energy prices, particularly influenced by external factors such as geopolitical tensions and global supply chain disruptions. The recent energy crisis, exacerbated by the war in Ukraine, has led to unprecedented spikes in gas, and subsequently electricity prices, that have put pressure on consumers.
Panellist Kostas Theodoropoulos, senior principal at AFRY Management Consulting, noted that although the current design of the market has its shortcomings, it nonetheless effectively created price signals during the crisis, which were essential for maintaining market stability.
Pathways and Solutions: investments, flexibility and capacity markets
All panellists recognised that key to ensure affordability and reduced reliance on imported fossil fuels will be to establishing market arrangements enabling further deployment of renewable and low-carbon energy sources will be central to any future developments of the European market design.
However, as more renewables enter the market, the need for flexible capacity to ensure system adequacy grows higher.
“Capacity markets are now recognised as a much more structural element as opposed to mere temporary measures,” – said Theodoropoulos.
The necessity for multi-sectoral planning and a robust investment framework was another key point. Investments in flexibility, storage, and renewable generation are crucial for preparing the market for future challenges.
As Hayes put it, “lots of investments will be required; the [current] market tools give us the certainty needed to attract said investment.”
Given all the challenges, the panellists argued against radical changes to the recently agreed market design. The current market design, based on the merit order and marginal pricing, has delivered significant benefits by optimising system operations and encouraging investment in low-cost renewables. The high electricity prices seen recently are therefore not a result of the market design but rather the outcome of a gas supply crisis.
Time to act
The path forward will also require timely and adequate implementation of the existing/newly revised regulatory framework complemented by boosting innovation, digitalisation, and decentralisation to further strengthen electricity markets across Europe.
As Berzina aptly stated, “we cannot keep discussing issues forever; we must also act.”
Yet, implementation ought to be universal and done at the EU level, as a patchwork of 27 different systems would create unnecessary complexity and reduce efficiency and affordability. By focusing on thoughtful improvements and maintaining the core principles of the current market design, the electricity market can continue to evolve and meet the needs of Europe’s rapidly changing and decarbonising economy.
Source – Eurelectric