Here is our written summary of our online panel discussion held last week on the EC’s Electricity Market Design reform proposal. Catharina Sikow-Magny, Director, DG ENER presented the main elements of the proposal, and answered questions from the panellists: Wanda Buk, VP for Regulatory Affairs, PGE Polska Grupa Energetyczna; Leonardo Meeus, Director, Florence School of Regulation; Jérôme Le Page, Chair of Electricity Committee, Federation of Energy Traders (EFET); Michaela Holl, Project Leader, EU Green Deal, Agora Energiewende. As always, our summary starts with the highlights before laying out the discussion. The proposal’s main aims are to make the energy market work better, protect consumers more, and incentivise investment in renewables. Questions were raised on the key issues: price risk reduction through hedging; how should excess CfD revenues be used; market barriers to small, new and innovative players; the need for some exposure to market prices; the difficulties with mandating and creating virtual hubs; is there enough emphasis on distribution grid investment; subsidiarity challenges, and more. Moderated by Energy Post’s Matthew James, the event was sponsored by PGE Polska Grupa Energetyczna.

Participants

Catharina Sikow-Magny – Director, DG ENER, European Commission
Wanda Buk – Vice-President for Regulatory Affairs, PGE Polska Grupa Energetyczna S.A.
Leonardo Meeus – Director, Florence School of Regulation
Jérôme Le Page – Chair of Electricity Committee, Federation of Energy Traders (EFET)
Michaela Holl – Project Leader, EU Green Deal, Agora Energiewende
Matthew James – Managing Director, Energy Post (moderator)

Highlights

The reform proposal

• This proposal’s main aims are to make the energy market work better, protect consumers more, and incentivise investment in renewables.
• More renewables is good for consumers, energy security and prices. We saw during the crisis that those member states with a lot of renewables in their mix had lower prices than other states.
• Consumers will have stronger protections, benefit from the lower cost of renewables, and in time lower bills.
• The role of consumers has been considerably strengthened: consumers will have more possibilities for taking part in the energy market.
• Consumers will have the right to more than one contract, e.g. fixed and dynamic prices, chosen according to their needs.
• The proposal requires all member states to put in place a supplier of last resort, and protections for vulnerable consumers.
• There is more transparency, information for market players, and also stronger protection in case market manipulation is detected.
• European industry currently has limited options to protect their prices. So three measures will address this: the ability to sign longer contracts, regional hubs to provide more liquidity, and more transparency.
• Member states will be obliged to extend the Power Purchase Agreements (PPA) market to smaller companies; the EIB is working on a pilot.
• When public support is needed for new investments in renewables and nuclear, this comes with the obligation to use two-way CfDs (Contracts for Difference) that set a price ceiling; excess revenues will be channelled to consumers.
• The measures provide incentives and certainty for investors to make sure that we accelerate investments in renewables, phase out Russian gas and ultimately all fossils from the electricity mix.
• Volatility will increase in the future because of the increased use of intermittent solar and wind. Hence the obligations for flexibility, in particular storage and demand response.
• Investment in distribution is key. But the reason these proposals have not put the same effort into distribution as into transmission is because of the usual issues over subsidiarity.

Panellists’ observations

• Price risk reduction through hedging should not be mandatory. Regular stress testing can be a better and safer solution, and should be given as an option.
• Given renewables must build out faster than before, excess CfD revenues should be earmarked for investment in renewables, storage and flexibility.
• Will CfDs be able to cope with changing market situation, like rising interest rates?
• CfDs should be predominantly used with large scale investments.
• Hedging obligations, CfDs etc., should not become a market barrier to small, new and innovative players.
• PPAs and CfDs for better functioning forward markets is welcome, though deeper details still need to be worked out.
• There should always be some exposure to market prices: it is an incentive to drive flexibility.
• During the crisis 439 different national measures were created to deal with it. The proposals will reduce that chaos and complexity, and start to align policy.
• Uncertainty led to a decline in renewables investments last year. We need certainty to reverse that.
• It is very difficult to mandate and create a virtual hub.
• There should be more emphasis on distribution grid investment.
• On investment in distribution: why is subsidiarity the problem? The EC has managed the subsidiarity issue in other matters quite successfully.

Opening Presentation by Catharina Sikow-Magny – Director, DG ENER, European Commission

This is a summary, not a verbatim transcript, of the key points made during the online panel event.

Catharina Sikow-Magny
Director, DG ENER
European Commission

Here is a short summary of the proposal. We did organise a short public consultation and got more than 1,300 replies to the questionnaire. The comments were very converging, and our proposal reflects where there was very strong consensus, for example 70%-80% of respondents, so we’re not speaking about 50%!

First of all, we have considerably strengthened the role of consumers in the energy market. They will benefit from the lower cost renewables, and in time lower bills.

The second big element is that consumers will have more possibilities for taking part in the market.

The third element is stronger protection for consumers.

This slide shows where we intend to improve the current legal framework. For instance, today there is no obligation to provide consumers a long term fixed contract. And even when suppliers do provide it, there is no requirement for them to provide prudential behaviour and protect the price through hedging. We bring these two elements to the proposal.

With greater demand from EVs etc., we have many more possibilities for demand response, so we give the right to consumers to have more than one contract, e.g. fixed and dynamic prices, chosen according to their needs. Sharing electricity is made much easier between neighbours.

Our proposals reduce price risks, and we also require all member states to put in place a supplier of last resort, and protections for vulnerable consumers. We also provide the possibility of member states to regulate retail prices for the benefit of households and SMEs.

So there are a lot of measures to protect consumers, and to make them more active in the market.

As part of the package we also reviewed the REMIT Regulation, to make sure there is more transparency, information to market players, and also stronger protection in case market manipulation is detected.

European industry has faced difficult situations with high price volatility, and the limited options they have to protect their prices.

We have three types of measures. We’re looking at the possibilities for them to sign longer contracts, and regional hubs to provide more liquidity, and more transparency.

For contracts longer than three years we have two types, Power Purchase Agreements (PPAs e.g. for 8, 10 or 15 years) that guarantee a price. We want to oblige member states to extend the PPA market to smaller companies; the EIB is working on a pilot.

When public support is deemed necessary for new investments in renewables and nuclear, this comes with the obligation to use two-way CfDs (Contracts for Difference) setting a price ceiling; excess revenues will be channelled to consumers.

The last element of our proposal is to make sure that we accelerate investments in renewables, which can phase out Russian gas and ultimately all fossils from the electricity mix.

The measures provide incentives and certainty for investors. Volatility will increase in the future because of the increased use of intermittent solar and wind, so we must build up the flexibility of the system. Hence the obligations for flexibility, in particular storage and demand response.

Matthew James
Moderator
Energy Post

Have you any analysis of the consequences and benefits of a higher renewables share?

Catharina Sikow-Magny

We saw during the crisis that those member states with a lot of renewables in their mix had lower prices than other states. The more renewables we have the more we push marginal production and gas out of the mix and that will bring prices down. The investment cost will be paid back over the next 10 to 15 years. And if the market prices do go high the CfDs will claw revenues back to consumers. So there will be short and long term benefits.

Wanda Buk
Vice-President for Regulatory Affairs
PGE Polska Grupa Energetyczna S.A.

Let me start by recognising the efforts put into the proposals at DG-ENER.

The narrative of the huge profits of the energy companies is often missing the fact that these are the fuel companies – especially the oil and gas producers – that have the record profits, whereas companies like PGE that are in a process of transition are in a completely different position.

Our wind farms plans need to mobilise massive up front finance. So we oppose proposals that impact the market revenues of infra-marginal generators as we need to carry on our transformation and get rid of fossil fuels faster than we expected.

We agree with the Commission that the market fundamentals should remain untouched. We agree that the marginal pricing on the short term markets is essential, the price signals are crucial for deployment of renewables and development of flexible services.

We agree that long term contracts should play a more important role. State guarantees for PPAs is a step in the right direction. We agree that CfDs are suitable for large scale investments in renewables. We also support the possibility to combine CfDs and PPAs with a single generator.

But there a parts of the proposals that need clarification. Firstly, the mandatory hedging of suppliers. We are aware of the problem that this addresses, but we believe regular stress testing is a much better and safer solution. Mandatory hedging is right for suppliers that do not have stress testing, but it should not be a general tool. We are afraid that it could undermine market competition.

We also support more emphasis on distribution grid investment, but there are new challenges for DSOs who have to rapidly adapt to faster deployment of renewables and more customers and consumers. So we need to find proper instruments to support this, with money that would come also from the market.

When it comes to direct price support schemes, at PGE we already covered one power project in the Baltic Sea with CfDs and it is clearly a useful instrument but – noting that was concluded with the Commission before the Russian aggression on Ukraine started – we can already see the shortcomings of CfDs. Interest rates increased significantly and our business model suffered. So we must be able to adapt CfDs not only to the technology but the changing market situation.

We differ significantly with these proposals over the use of CfD revenues. To distribute money among all final customers is short sighted. Instead of cutting the bills for all customers in a non-crisis situation let’s support investment that will help final customers to invest in renewables, storage and flexibility. Those goals will allow those customers to ultimately control their bills. We believe that would be much better.

Finally, we should discuss whether CfDs should be addressed to all listed technologies regardless of installed capacity. We believe CfDs should be predominantly addressed to large scale investments. The capacity threshold should be considered.

Leonardo Meeus
Director
Florence School of Regulation

The big question was is this going to be an evolution or a revolution. You can have revolutions going backwards or forwards! I am very relieved that this proposal is an evolution, and a significant evolution. It addresses some of the main issues that we all agree on. We all agree we need to keep short term markets, we need to continue to harmonise and integrate them, and there are several elements in this proposal that go along with this.

We also all agree we need better functioning forward markets, and here the proposals have a very concrete step forward. There’s a lot of discussion on how we are going to combine PPAs and CfDs and there are different views, and I think the proposals strike a good balance. And I agree with Wanda that the implementation might still have problems and they will have to be addressed later.

What we do now and what remains as guidance for later is worth discussing.

I’ve very happy to see that the opportunity was taken to accelerate some of the consumer-side innovations of the clean energy package that have not yet played a huge role in the current crisis because they were still new and many member states have not yet properly implemented them. So it’s good that we’re accelerating this a bit so that maybe in coming years when similar situations happen, consumers can organise themselves and not depend so much on short term markets.

So I am relieved given, over the last few months, many proposals were made that were willing to sacrifice many of the achievements we’ve already made in the past.

Michaela Holl
Project Leader, EU Green Deal
Agora Energiewende

We are relieved to see these proposals will accelerate the transition, not slow it down. Mandatory CfDs would have taken out a lot of the innovation we have seen around renewables finding money in the markets.

Disruptions to the revenues of infra-marginal generators are not good as they already suffer from inflation and high costs, and they have to invest in this environment where they are very vulnerable.

We like that CfDs and PPAs are optional and there is a threshold.

There’s an assumption that CfDs and PPAs all do the same when it comes to hedging and decarbonisation, but they are actually very different. A PPA is just a private contract, and some still expose you to the marginal price, does nothing to decarbonise and nothing to hedge. I have read that there are 14 different ways that private entities buy directly and they are not all the same. Same with CfDs; setting up auctions is complex. They must not take away exposure to the price; there must still be an incentive to deliver flexibility.

Jérôme Le Page
Chair of Electricity Committee
Federation of Energy Traders (EFET)

We are reasonably happy with the Commission’s proposals. For us it’s all about restoring the confidence of consumers. We’ve all seen their bills drastically increase. The most vulnerable have been affected more. Some sort of sanity must be brought to how we react politically to this evolution. ACER recently reported that in the last 18 months there have been 439 different national measures to deal with this crisis. So the proposals come at the right moment to bring all that back into line.

Uncertainty has resulted in a decline in renewables investments in the last year. We must get back on the path to decarbonisation. We saw Catharina’s numbers saying we want 69% renewables power generation by 2030, that’s more than double what we do now.

We need to care about security of supply, we need to care about how consumers can afford their bills. But the main fight for decades to come will be climate change and we need to keep that in mind.

Panel Discussion

Matthew James

What are your concerns around mandatory hedging for suppliers? Let’s start with Wanda.

Wanda Buk

We are a big company with over 5m customers. We have a hedging strategy and we are trying to alleviate the risk as much as possible. But we are concerned about having specific legally binding thresholds; it will make our market position very difficult I can imagine that renewable power generators will be able to force us to sign a PPA because we have to meet a requirement. This would disturb the market.

Catharina Sikow-Magny

First of all we did see many companies that had hedging strategies – no problem there. We want to see this spread more widely. What we did see in the crisis was companies that did sell electricity to consumers at an attractive fixed price, but they could not honour these prices when the market went high. So these companies left the market, left consumers in the cold. And then other companies who had protected their business properly had to supply these consumers and that was very costly to them. That is what we try to address here. We will certainly look into the details of your concerns. But any prudent company in the market already has a hedging strategy and so should be fine.

Wanda Buk

That’s why I said previously there should be a stress test – whether the company is reliable, stable, well settled – and if you don’t pass it you must go for a hedging strategy.

Leonardo Meeus

We also argued that this has to be looked into because there have been dramatic situations in some countries where a lot of retailers have gone bankrupt just when customers needed them the most. Imagine you are a customer, you’ve just signed a fixed price contract so you think you are hedged, and then all of a sudden you are on the market.

There are two elements that can help remedy this. First, there can be a supplier of last resort. And I understand Wanda that the provisions that are there should be used in the right way. When we wrote about it we had another concern. The small innovative players could see hedging as a market entry barrier. This must be implemented in the right way, making sure innovation is not stifled. We need something, that’s for sure. On Wanda’s concern, I don’t think this is the intention of the proposals.

Jérôme Le Page

What’s really important is that the consumers are given a choice. There was an obligation in the past for dynamic price contracts to be proposed, now there would be an obligation also for fixed price contracts. That doesn’t mean you have to go in a specific direction. There’s still wide room for manoeuvre for suppliers. The important thing is that consumers are properly informed, they can properly act – fixed or dynamic contract – what they can do with it, what they can do with their consumption. In the end those hedging obligations must match the commitment they have to their consumers. Yes, you should be hedged if you offer a fixed-price contract. For dynamic pricing your hedging needs a likely a bit lower.

All this shouldn’t prevent consumers who want to be more active on the market and in their consumption – we’ve seen how important that was during this crisis, how consumption was reduced and shifted through time – it’s part of the flexibility we talk about so much that we need in order to integrate more renewables in future.

Michaela Holl

The products that you would need to hedge are not there: like renewables plus storage. That’s where our concerns are. In order to do this job those products need to be on the market. A criticism we have is that there is too much focus on the renewables cost; you need to also look at the cost of deploying storage a grids.

Matthew James

Catharina, how do the proposals deal with the need for investment in distribution grids?

Catharina Sikow-Magny

This proposal is aiming at making the energy market work better, protecting consumers more, and incentivising investment in renewables in particular. When it comes to investment in distribution and transmission, that will obviously be key to the success of our strategy for decarbonisation strategy and policy overall.

For the transmission side we already have the trans-European network policy in place with a small budget to accompany it as well. On the distribution side I do agree that is where the biggest investment needs are to come. We see 80% of future renewables connected at the distribution level, so that is certainly something were a lot more effort needs to be put in place. However, the reason we haven’t put the same effort into distribution as we have into transmission is because of the famous question of subsidiarity. Local grids: is it something that should be addressed at the European level? Financing of local grids is already foreseen in the regional funds where member states have a strong role to play. Is this something that needs to change? We will certainly look into it on our side because without strengthening the distribution grids we will not succeed in decarbonisation. But what are the right measures, I think that is something for another debate.

Matthew James

Wanda also said she was concerned about the plan for excess revenues from CfDs to be given to consumers, instead of using that money for investment.

Catharina Sikow-Magny

This is to make sure consumers benefit from the increased amount of renewables in the system. I can already tell you that in the first discussions we have had with member states in the council context, this question has been raised by many member states, so this is certainly something we will continue to discuss with the council.

Matthew James

Wanda, you’ve just heard that it’s only when the market price is very high that excess revenues go to consumers. Why is that a problem?

Wanda Buk

We had signed CfDs before the war and before interest rates went up significantly. Now we see our investment and business case is completely disrupted by the market reality. What we are calling for is to make the rules more flexible when necessary so we can adjust to the market reality.

Matthew James

Leonardo, is Wanda right to be concerned?

Leonardo Meeus

It’s definitely a valid concern. We’ve seen in many countries that CfDs are a type of contract that can be implemented in many different ways. Indeed, we’ve learned lessons in many countries that have had this experience, they’ve needed to index the strike price, or there need to be additional provisions in these contracts they need to revisit in these circumstances and – as Wanda says – they can go both ways because the market can move to benefit consumers and you need to take that into account as well.

Among academics there were some ideas to have additional implementation principles in this proposal. But I understand, due to time pressures, it was tricky to go very deeply into implementation with these proposals. Another idea was, rather than allocating the money to consumers you could slice these contracts into shorter term contracts and then sell them off; that would address the liquidity issue, because then the government-backed contracts would partly go back to the market, and you also solve the revenue allocation issue. The good part is that these proposals do not prevent that; countries could do this. This often happens when we do something new at the European level, we allow degrees of freedom, then over time we are ready to harmonise a bit more. That seems to be happening here as well.

Jérôme Le Page

There’s quite a lot of agreement with the general direction. There are different pieces of the puzzle which have to be fit together. Catharina talked about trying to make PPAs the primary tool for forward market based hedging with CfDs to complement them.

One of the things that concerns us is the idea of virtual hubs. The only example we’ve seen in Europe is the Nordic virtual hub hedging. It’s not really a success. It works well when it comes to forward trading, but we’ve seen the liquidity of that virtual system decline over the past ten years since it was created. For the moment liquidity is mainly centralised around one market which is Germany, three years ahead of real time, and that serves as a virtual hub for everybody in Europe. Trying to mandate and create a virtual hub somewhere is quite tricky. Liquidity is a difficult animal to manage. If you don’t have the trust of market participants it’s going to be very tricky to do that. The question is how it will impact the actual existing forward markets? We talk a lot about hedging and protecting consumers, but that shouldn’t kill the basis for better hedging in the future.

Matthew James

Is the current crisis an exception? Is there anything in the proposals that could be an overreaction?

Leonardo Meeus

Jérôme referred to the abundance of national emergency measures. So this proposal is definitely not an overreaction, it’s to help things calm down. I see it as a replacement for all these national reactions that create a bit of chaos. Some wanted something even more European, even more harmonised. But that takes time.

So maybe this proposal has the roots for a potential future proposal: once we have the new reality with the forward markets, more long term contracting, maybe bigger capacity mechanisms, maybe then we can integrate and harmonise that a bit more at the European level. I don’t know how fast that will come, but I feel that might be the next step at some level.

Matthew James

Leonardo, any more comments on the CfD requirements?

Leonardo Meeus

I think the proposal still allows countries to go for PPA innovation. We don’t have mandatory CfDs. It’s only if you want to provide support that CfDs are the default support scheme. Even if there is a possibility to get a CfD contract there would be criteria in the tender for developers to reach out to customers, and that can include PPAs. So it’s not about CfD-ing everything.

But I agree with Wanda that to the extent that CfDs will be used, the contract design is absolutely important. The current proposal leaves that to the member states, and some member states still have to learn how to do that properly.

Another concern I have with CfDs is how market compatible they are, how they will maintain the signals to respond to short term markets. As far as I know that is not yet specifically addressed in this proposal.

Audience Q&A

QUESTION from Elisabeth Cremona

Electricity grids constitute a key source of flexibility, but are not being expanded fast enough. Does the reform proposal seek to address the lack of incentives for system operators to invest more in grid infrastructure?

Wanda Buk

PGE owns the biggest distribution company in Poland. It has huge challenges around building out and modernising the network. My concern is that it will not be able to do that as fast as the other parts of the market. When it comes to all DSOs they have to catch up with not only bigger scale investments, but also with new prosumers and individual customers. I cannot see the answer to this in the proposal. Catharina says this is a challenge for member states, but I do not agree. There are so many other local challenges that the EC does address in its legislation, so why not this one?

Michaela Holl

The grid issue is completely neglected in the proposal, and the financing needs. In that context, this week the Greek authorities are proposing a European grid facility. We are focussing too much on the renewables costs. I totally agree with Wanda, it is too simple to say we don’t look at the DSO level. Like you say on many other issues subsidiarity is not a concern. If 80% of investments happen at that level then we need to look at it because not looking at it – in regulatory and financial terms – will have an effect.

The EC itself should do this planning – we rely too much on IEA planning – and do this electricity modelling to ensure that things can move in the internal market. I think this is a very important aspect.

Matthew James

Jérôme, do you think this proposal will accelerate clean energy consumption and the transition this decade?

Jérôme Le Page

First, this is just a proposal, this is the start of the process. We have at least a year of legislative process with the council and the parliament. And it’s not just this reform that will deliver the transition. There’s the Green Deal, there’s REPowerEU, all these send signals for investment in renewables, and storage and demand response and hydrogen etc.

The issue is that investment is a global market. We all know about the IRA support package in the U.S. Investments have fled Europe in 2021 and 2022. How do we respond to that? That’s the million dollar question. This proposal is giving us a good basis for restoring confidence for investors. How do we stick to this line, how do we avoid 439 different national measures to deal with this crisis. This gives a clear view to people who want to invest in this transition.

Matthew James

Leonardo, do you think this will have a positive effect on investment? And what about distribution grids?

Leonardo Meeus

I agree, distribution grids still have challenges that have not been addressed. But this was a market reform proposal. So we could not expect it to address grids as we would have liked it to.

I really think in a future renewable based system we absolutely need to keep our borders open, to keep exchanging electricity on a very granular level. We will always have a shortage somewhere and abundance somewhere else, so we will really need the markets we have created in Europe – and we’re doing it on a truly unique scale. This proposal helps save what we’ve done and adds a layer on top of it that was needed to replace the emergency measures individual countries had put in place. This is a really significant step for this transition. That was not obvious a few months ago and some were thinking of going back to the drawing board which would have really delayed everything. Most member states that were advocating for bigger changes seem to be welcoming these proposals, so it’s calming things down and providing more of the certainty that the industry needs to start investing again.

Matthew James

Wanda, a quick final word on the proposal?

Wanda Buk

I think the proposal is narrow enough to provide predictability of the regulatory framework for stakeholders. But it’s not the answer to every problem.

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Summary produced by Energy Post