To address the crisis in the EU power sector, the European Commission has embarked on a fundamental reform process – the Market Design Initiative. However, according to Michael Hogan, Senior Advisor at the Regulatory Assistance Project (RAP), the problem with the EU power sector today is not so much market design as a glut of old, inflexible baseload generation.
The European Commission’s Market Design Initiative (MDI), launched in July last year, rightly identifies investment and security of supply, demand-side participation in markets, and market governance as three central pillars of a successful market reform. In framing the initiative’s priorities, however, the Commission has neglected some of the most important obstacles to success in each of these three critical areas.
With the exception of a few pockets isolated by inadequate transmission, Europe’s power sector is drowning under a glut of production capacity
Investment and security of supply
The principal cause of the financial woes plaguing the power sector is not market design. It is rather a glut of old, inflexible baseload generation—primarily, but not exclusively coal-fired—that is surplus to requirements and incompatible with the power system’s growing need for more flexible resources.
The glut of old, inflexible baseload generation is surplus to requirements and incompatible with the power system’s growing need for more flexible resources.
The idea that we should “re-design” the power market springs in part from the perception that the market is failing to support investment needed “to keep the lights on.” On closer inspection, however, it becomes clear that this diagnosis misses the mark. With the exception of a few pockets isolated by inadequate transmission, Europe’s power sector is drowning under a glut of production capacity, and not just any production capacity. The problem is inflexible baseload.
Wholesale and retail markets—and even in some cases national legislation—are rife with provisions that needlessly discriminate in favour of large generators
Hence, the top priority in restoring a healthy investment climate to the power sector should be a targeted, “smart” programme for permanently retiring inflexible, old baseload plants as quickly as they become surplus to requirements. To support this, a new, regional, independent framework for assessing generation adequacy must be created—one that fairly accounts for all resources, including energy efficiency, demand response, storage, and interconnection.
Demand-side participation in markets
“Empowering European consumers” is a rallying cry of the MDI and rightly so. Demand participation is not only essential for the market to work, it is a critical success factor for the energy transition. But the suggestions for action so far fall well short of what it will take to make this happen.
Getting price signals right is crucial, and the MDI can go much farther in challenging Member State interventions, such as capacity markets, that distort the information provided by energy market prices. If intervention to support investment is deemed necessary, it should first enhance rather than undercut the effectiveness of energy market prices. But better price signals are only a start:
- Wholesale and retail markets—and even in some cases national legislation—are rife with provisions that needlessly discriminate in favour of large generators.
- New entry by innovative players is inhibited by ineffective market monitoring and enforcement.
- Decarbonisation of the heat and transport sectors is expected to rely heavily on electrification, and yet the strategies for those new sources of electric demand are being developed without adequate coordination with power market strategies.
These problems can be addressed through various measures, e.g. jump-starting demand’s role in markets, including time-of-use tariffs, especially for transport and heating and cooling applications, “smart appliance” standards, support for building grid-integrated thermal energy storage into heating and cooling applications, and limited supplier obligations.
No market design can succeed without effective governance. While the MDI refers to the need for a more regional and European approach to market governance, it overlooks the most glaring obstacle to success—the widely held and largely justified belief that the market is not competitive.
It would be foolish to expect any market design to succeed unless the conditions necessary for success are in place. From the wholesale to the retail level, consumers, regulators, and government must have confidence that they are not going to be exploited by a few large, incumbent generators and suppliers.
Europe has yet to develop the kind of robust market monitoring, reporting, and enforcement framework that underpins successful electricity markets elsewhere in the world
Abuse of market power by established players can stifle the innovation and investment needed to overcome the challenges and seize the opportunities presented by the energy transition. Europe has yet to develop the kind of robust market monitoring, reporting, and enforcement framework that underpins successful electricity markets elsewhere in the world. The MDI must go farther in establishing an independent, expert, and fully resourced market monitoring and reporting function as well as clarifying and consolidating the competition enforcement regime. It must also provide coherence between energy and climate governance regimes by embedding energy-related climate objectives into energy market governance principles.
Implementation, governance and complementary policies critical to success
The European Commission has opened an important window of opportunity to address critical electricity market-related issues. While there is a temptation to focus on the design of the current market as the problem to be addressed, in fact it is the galaxy of implementation issues, governance structure, and complementary policy challenges that require the most urgent attention.
The Regulatory Assistance Project (RAP), a globally operating independent and nonpartisan team of experts. This article is based on a Policy Brief published by RAP in conjunction with E3G, ClientEarth, Energy Union Choices, Agora Energiewende, European Climate Foundation and IDDR in March 2016, Priorities for the Market Design Initiative: What’s Missing? What’s Most Important?