Commission State Aid Sector Inquiry into Capacity Mechanisms: More Important than Many May Think, Particularly in Germany

On 29 April 2015 the European Commission launched its first sector inquiry under EU state aid rules into national capacity mechanisms. The aim is to collect information that will allow the Commission to detect potential distortions of competition or trade in the EU single market and devise appropriate legislative iniatives for an electricity market design in line with the EU’s Energy Union Strategy. The inquiry is broader than many may think: It is by no means restricted to what has been discussed under the “capacity market” heading in Germany recently, but for example also covers key elements of the “electricity market 2.0” option as it also contains important capacity reserve elements. As the inquiry may also provide the basis for future state aid actions and policy decisions of the Commission (which may also include repayment of unlawful state aid), the inquiry should not be underestimated.

European state aid rules have been – and will continue to be – a strong sword in the hands of the Commission to increase its influence on national energy policy. The previously seemingly almighty German Renewable Energy Sources Act felt (and is still feeling) the force of European state aid law, as are energy intensive industries. Some may recall their influence on domestic coal production. Others wish the sword will still kill Hinkley point.

1. Far-reaching Scope of the Inquiry

The Commission’s fact sheet for the sector inquiry very broadly defines capacity mechanisms as “measures to ensure sufficient electricity supplies”. This broad understanding can also be found in the Commission’s decision of 29 April where it says

“Moreover, they may include only certain generation technologies or exclude non-generation activities such as demand side response. They may also disregard the contribution that capacity providers outside national borders and improved interconnection with neighbouring markets can make to ensure security of electricity supply.”

The sector inquiry is made under the Guidelines on State aid for environmental protection and energy that entered into force in July 2014 (EEAG), which for the first time contain rules to assess capacity mechanisms (Section 3.9 of the EEAG). It shall complement the Commission’s legislative proposal on electricity market design under the EU’s Energy Union Strategy.

The inquiry shall shed light on the various types of capacity mechanisms that exist or are planned, described for example as strategic reserves, one-off tenders for new generation, capacity payments, capacity auctions and supplier obligations, the Commission explained (for more information on the various types of capacity markets identified by the Commission, please use the link below to the fact sheet provided by the Commission).

The inquiry (initially) relates to capacity mechanisms in place or considered by Belgium, Croatia, Denmark, France, Germany, Ireland, Italy, Poland, Portugal, Spain and Sweden, the Commission said, adding that it would send out different sets of questions to selected public authorities and market participant. The UK is not on the list, as on 23 July 2014 the Commission authorised the United Kingdom’s capacity mechanism.

By carrying out the inquiry the Commission wants to

  • collect the views not only of Member State authorities as in standard state aid cases, but also of stakeholders such as electricity generators, suppliers, network operators and demand response providers to inform the Commission of problematic issues;
  • identify design features that may distort competition between capacity providers (e.g. between power generators and demand response operators) and distort cross-border trade;
  • promote competitive and market-based capacity mechanisms that complement the internal energy market rather than divide it; and
  • ensure Member States respect state aid rules when designing and implementing capacity mechanisms.”

2. Timeline and Potential Consequences

The Commission expects to publish a draft report for consultation around the end of the year, and a final report in summer 2016.

The sector inquiry would “support future policy and legislative initiatives by providing a clearer picture of issues in this area”, the Commission already announced, adding that it was “considering the development of an EU-wide harmonised framework for assessing the adequacy of the electricity system, and its ability to meet demand”.

3. State of Play of German Deliberations on a Capacity Market

In Germany – where state-supported volatile renewable energy meanwhile accounts for a share of 28.5% of gross electricity consumption – the discussion about some kind of capacity market that ensures sufficient flexible power has been going on for some time. In the past many conventional power plant owners have informed the regulator, the Federal Network Agency (BNetzA), about plans to shut down power plants (for more information by BNetzA about capacity developments, please see here), which are not longer profitable (the latter applies in particular to modern gas-fired plants like E.ON’s Irsching plants).

The German Energy Ministry lead by Minister Sigmar Gabriel, a Social Democrat, and State Secretary Rainer Baake, a Green Party member, has so far been hesitant to introduce a capacity market in which reliable sources of capacity receive payment alongside their electricity revenues. At this year’s Handelsblatt Annual Energy Conference, Mr. Baake rejected allegations that the Ministry was not willing to introduce a capacity market, but said Ministry will not adopt any model just for the purpose of subsidising unprofitable thermal power plants.

In October last year the Energy Ministry published a Green Paper on the future development of the German electricity market. It looked into two basic approaches: an optimised electricity market (“electricity market 2.0″) or a further market alongside the electricity market to maintain reserve capacity (“capacity market”). Comments on the Green Paper were due by 1 March 2015.

Based on the findings and comments the Ministry is preparing a White Paper with specific proposals which it wants to present at the end of May 2015. The White Paper will also be publicly consulted until September 2015. The next step will then be the drafting of legislation deemed necessary.

4. Next Steps

In view of the Commission’s and the Ministry’s timeline, market participants active in (or affected by developments in) the countries targeted by the sector inquiry would be well advised to start considering their position quickly. A lot more if not ultimately everything in the (broadly defined) capacity mechanism arena may have to pass European state aid law tests. The capacity mechanism sector inquiry will provide many important pieces for the future European energy puzzle. And therefore also for national energy law and energy market developments.

Source: European Commission, decision initiating the inquiry, press release, fact sheet; Bird & Bird Overview

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