SEE power markets can achieve liquidity, competition only via regional integration

Ivanka Dilovska, Member of the Management Board, Energy Management Institute

The Energy Management Institute (ЕMI) is a public institute for energy policy founded in 2010 with the aim to promote the interest of the Bulgarian energy sector and the EU and global energy policies and best practices, to enhance the dialogue between stakeholders, to facilitate decision-makers in energy policy development and implementation. Since March 2014 EMI is a fully-fledged Bulgarian member of the biggest association on electricity industry in Europe – EURELECTRIC.

What are the most important regulations that stimulate/secure the electricity market in Bulgaria and other countries (for example, measures under OP Environment aimed at cleaner domestic heating, which will increase electricity consumption in Bulgaria by 0.15% per annum)?

A primary long-term goal of the European Union is to achieve an integrated European energy market. Therefore, EU legislation provides that any EU policy objective in the field of energy and climate protection should be achieved through market mechanisms. Thus, consumption of one or another type of energy resource will be determined mainly by market mechanisms and rules.

The ambitious EU decarbonisation target, that envisages an 80% decrease in carbon emissions by 2050 as compared to 1990 levels, with intermediate targets of a 40% reduction by 2030 and 60% by 2040, is also expected to be achieved through the market. The EU Emissions Trading Scheme, seen as a key tool for achieving this goal, is considered a cost-effective way to make the EU economy more environmentally friendly and less energy-intensive. The tool for affecting air pollution is the price of carbon emissions that can attract or deter investment in a certain technology.

European projections suggest that electrification will prove to be a cost-effective and efficient way to decarbonise the economy. According to a recent study carried out on behalf of Eurelectric, Europe’s largest electricity industry association, electrification is the most cost-effective way to achieve decarbonisation targets. The share of electricity in energy consumption is expected to increase to 60% in 2050 when the electricity sector is expected to be carbon-neutral. As a result, carbon emissions in the European economy will be reduced by 95% as compared to 1990.

Electrification as a concept means the penetration of electricity into areas where it is not currently used or its usage is limited. There is potential for electrification in the transport sector, in the household sector – for heating and cooling, as well as in the industry.

A significant increase in electricity consumption is to be expected because electrification is seen to be the most cost-effective way to achieve decarbonisation. But we should bear in mind that electrification only makes sense if it is achieved through carbon-neutral or low-emission electricity production.

Can we say that electricity from renewable energy can develop in a free market? Will the liberalisation of the market ensure the deployment of renewable energy?

We are witnessing an intensive penetration of renewable energy in the EU electricity market. This is the result of applying various non-market mechanisms to promote it. In Bulgaria, these include preferential prices, priority dispatch and priority connection. Thus, the European renewable energy targets cannot be currently achieved in a completely market-based way without additional financial stimuli.

This type of policy aimed at encouraging investment in electricity from renewable energy has revealed serious disadvantages in the electricity market model. Restricting electricity generation from conventional power at the expense of renewable energy has led to financial losses and the closure of conventional power plants. This was followed by withdrawal of investors from the energy industry despite the need for new generation capacities which led to the so-called missing money problem. To overcome these contradictions between the market and renewable energy, electricity from renewable energy should gradually become more market-oriented – it should cover its costs, priority dispatch should be discontinued and in the end, non-market subsidies should be terminated. And this is subject of discussions and regulations in the fourth legislative package.

Renewable energy is expected to have a stronger competitive position by 2025 and to develop predominantly without financial stimuli. These expectations are based on technology progress, which leads to a sharp decline in the necessary RES investments and renewable energy prices, as opposed to carbon-based electricity industries, where costs and prices are rising due to carbon emission taxes.

In a broader sense, the intensive renewable energy penetration is changing the energy market in Europe. Small renewable energy plants are everywhere and even consumers are becoming producers and are increasingly active market participants. This leads to a radical change in the power system. The current linear one-way structure of the system in which the movement of energy is from a production, carried out by a few large power plants, to transmission, distribution and supply is about to remain in history. These changes seriously complicate the management of the system and require a change in the profile and activities of all market players, especially electricity distribution companies.

How does the difference between regulated and market prices currently affect liberalisation and future price changes?

At the Energy Management Institute, we recently studied the offers that licensed electricity traders provide to household and small non-household customers – those of low voltage, which are the only ones entitled to buy electricity at regulated prices. The study showed that only three licensed energy traders have online calculators on their websites that help customers directly compare the regulated price of electricity and the offers provided by retailers to household and non-household low-voltage customers. In all three cases, the market prices were higher than the regulated tariffs for household customers, ie there are no competitive offers on the free market as compared with regulated prices for household consumers. There are also no attractive offers for non-household consumers – prices on the free market are close to each other and to regulated tariffs.

This is the reason why low-voltage customers are not eager to look for offers on the free market, because price advantages are either lacking or negligible. Moreover, the Energy and Water Regulatory Commission (EWRC) noted during the last year that low-voltage clients are turning from the free to the regulated market and liberalisation is stalling. In addition to the price difference in favour of the regulated market, the other reason for this trend is the unreliable profile of licensed traders on the free market. At the end of 2017, one of the major players in the domestic retail market was removed, while other traders filed for insolvency or froze their businesses. Small customers are not motivated to actively search for information about changing providers for price reasons, and such phenomena are a further obstacle to the creation of market confidence.

The existence of regulated prices for products and services which are not subject to a natural monopoly is in itself an obstacle to liberalisation and competition on the market. Regulated prices distort the market and isolate some of its customers. At the same time, they create insecurity among traders and deter them from an active participation in this client segment due to its unclear liquidity and risk. Low voltage customers have the legal right even when they are already on the free market to return to the regulated segment.

Under EU legislation, 2007 was set as a deadline for the removal of regulated tariffs for all categories of end customers in the energy markets. Although regulated tariffs have not been abolished in many member states ten years later, the Association of European Energy Regulators and the European Commission have repeatedly underlined that the existence of regulated tariffs does not send reliable price signals to the market and end customers, excludes new players from the market and, in the end, market participants are refusing to invest in new capacities, new products and new services. And that is to the detriment of both security of supply and economic benefits that the competitive energy market provides to customers. For this reason, the EU now seeks to not only make regulated prices cost-oriented and available to only a limited range of (vulnerable) customers for a transitional period, but rather to directly abolish regulated prices. For this purpose, the Energy Union Framework Strategy recommends that member states with regulated energy prices should develop roadmaps for their elimination. A similar text can be found also in the preamble of the revised Electricity Directive in the Fourth Package.

Finally, the domestic market is witnessing a decrease in the interest of small consumers in the free market, due to the lack of significant price differences, and the lack of a sufficiently stable profile of retailers. As long as regulated prices are maintained, traders will also not feel secure to invest actively in this market niche due to disproportionate risks.

Are Bulgaria and the other countries in Southeast Europe (SEE) ready for a full liberalisation of the market?

Bulgaria has made serious progress in technical terms in recent years. The Bulgarian Independent Power Exchange was set up, and nominated by EWRC as a market operator, and since 2016 there has been a functioning A-day-ahead market with increasing amounts of energy and growing number of transactions and the Intraday market was launched this year. A platform for bilateral contracts is also in operation. An integration with the neighboring markets is also being prepared. Thus, significant progress has been made in technical terms since 2016, but at the same time, the very essence of liberalisation is that it is based on effective competition in production and supply and that is still missing in our country. As the latest EWRC Report to the European Commission shows, the electricity market in Bulgaria continues to be highly concentrated and competition is poor. The C3 concentration index, representing the market share of the three largest market players, stands at 78.66%.

Therefore, liberalisation efforts are directed towards increasing the number of participants in the domestic market as it was done this year in Bulgaria with the liberalisation of the renewable energy and high-efficiency combined heat and power generation markets and towards the integration of the national power market with those of neighbouring countries. Small countries in SEE, including Bulgaria, have small markets and a small number of market players, and cannot achieve a national competitive market on their own. True liquidity and competition will be achieved only through their integration. The ultimate goal of market integration on a European level is to ensure the free transmission of energy, without a prior authorisation from transmission system operators, i.e. to provide a “visa-free” regime for electricity.

What is the best way to support vulnerable consumers and should this be done at any cost (subsidised tariffs and direct payments)?

Social electricity tariffs, eg lower prices for vulnerable households, can be applied as a temporary measure in the transition to full liberalisation of the retail market but they have a number of disadvantages. Firstly, the supplements to the energy price, which in Bulgaria are defined as a public service obligation, will have to be increased and a new social supplement will be added to the current supplements that are aimed at financing green energy, cogeneration, long-term energy contracts and covering the loss of the National Electricity Company (NEC). We should bear in mind that the energy price supplements aimed at funding energy and environmental policies were the main driver for the rise in electricity prices in the EU in recent years. This, in turn, leads to an increase in the share of energy expenditure in household budgets and poses risks to the competitiveness of the European economy. European consumers are therefore particularly sensitive to the amount of their bills and an excessive increase should be avoided. Secondly, supplements to energy prices reduce the share of the competitive energy component in the full price of electricity and thus reduce the interest among consumers in changing suppliers. Social policy is the better way for fighting poverty, including energy poverty.

In a number of European countries, including Bulgaria, energy aid is provided as part of the social protection system. Energy poverty is considered part of general poverty, and the measures aimed at fighting poverty cover all its aspects, including energy poverty. For that reason, legal definitions of energy poverty are often missing on a national level.

The general definition of socially disadvantaged households and individuals also includes those who are “energy-poor”. In general, when households do not have enough money, they struggle to pay the bills for all basic needs, especially for food, and not just electricity. From this point of view, the current national policy is a good basis for social protection in the transition to full liberalisation of the retail market.

However, the measures aimed at protecting vulnerable consumers are not the same as regulated electricity tariffs for all customers. Vulnerable consumers need protection also in competitive markets, but the tools used for that purpose need to be in line with and support the prerequisites for an open and competitive market.

What stimuli can be applied to incentivise consumers to join the free market?

The best stimulus is the price – the lower price on the free market is the main stimulus for changing the traditional regulated supplier. In addition, if traders offer value-added services like energy audits or energy surveys, they can attract more dynamic or more picky customers. Energy is not just a commodity, it is rather a service and the winners are those retailers who offer flexible services, clever consumption management, discounts on reduced customer consumption when needed in order to achieve a more effective balance of the system, more attractive financial terms, other flexible services like weekend-price offers or hourly tariffs rather than just daily and nighttime tariffs, etc.

An easy, simple and free-of-charge procedure for changing suppliers is another important stimulus and it is usually provided by suppliers on the free market. Part of this simple procedure is the adoption of standard load profiles, which are a prerequisite for the move of small consumers to the free market. However, consumers need smart meters in order to be able to take full advantage of the additional attractive services mentioned above.

Consumers are more active when they are better informed. Regulators in developed markets certify online comparison tools where all traders introduce their offers for a certain customer group. In addition, there are requirements for offers that are unified and simplified in terms of elements and components of the tariff, rather than in terms of prices, in order to make their comparison easier for consumers.

Do you expect electricity prices to go up once the market is liberalised, and if yes, by what margin? Will electricity prices in Bulgaria remain competitive on a European level?

The question has two aspects – national and regional. If we assume that all necessary conditions for the power market liberalisation in Bulgaria were already in place and full liberalisation was achieved on September 1, prices would largely remain the same as prices on the power exchange are currently more or less equal to or even lower than the regulated price. There would be probably a shift in the ratio between day and night-time energy but significant price spikes are not to be expected.

On a regional level, market coupling generally leads to price convergence towards which has a negative effect on markets with lower prices. But this effect is practically already reached, if we compare the prices of the Independent Bulgarian Energy Exchange with those in the neighbouring countries, they are almost equal in terms of net energy price.

However, in Bulgaria, the price of energy accounts for only about 40% of the price for end consumers. Various taxes and supplement components increase electricity bills for end consumers. The net energy price in Bulgaria increases by 50% as a result of policies aimed at supporting renewable energy and high-efficiency combined heat and power generation that are financed through the supplement components of the price.

The big share of electricity from coal makes the development of prices both in Bulgaria and the region uncertain. All coal-fired power plants in Bulgaria, excluding those with long-term contracts, are out of the regulated market and have difficulty gaining foothold on the free market as their costs are higher than prices on the power exchange. Environmental requirements and the high cost of emissions will further weigh on their costs in the future.

Are power transmission and distribution systems in SEE ready to take on the expected increase in electricity consumption? Could you make an estimate of the necessary investments?

Grid modernisation is necessary for renewable energy integration, liberalisation and market integration. Digitalisation is also necessary so that power grids can integrate decentralised small energy producers, energy storage and e-mobility infrastructure. Power grid management is becoming more complex, with more risks and threats, both for transmission and distribution system operators. And that’s why investments are needed.

These investments will be passed on to consumers and together with supplement components aimed at funding energy and environmental policies, this will increase the price of electricity for consumers irrespective of movements in the wholesale electricity price.

Delaying investments in the power grid will not help Bulgaria and the other SEE countries to be competitive in the energy markets, as the pressure to invest will grow and these investments will have to be repaid for a short period of time time. Therefore, it is better to start making cautious and long-term investments in the power grid today and not to delay them.

On the other hand, electricity interconnectors in the region do not seem problematic unlike gas transmission networks. According to the 10-year power grid management and development plans published by ENTSO-e, there are no technical bottlenecks for cross-border transmission of electricity in SEE. And researches in Europe suggest that even in countries which have achieved high liberalisation and market integration, interconnectors are underused, i.e. the capacity of existing networks is not fully utilised.

Is it possible that liberalisation leads to increased demand for electricity, which could be met through the possible construction of the Belene nuclear power plant?

Under current market conditions, even power plants, which have long recouped their investment costs, have difficulty finding their place on the free market. The experience of the most developed fully liberalised markets in Europe has proven to us, that new, capital-intensive investment projects in production facilities cannot survive without any form of non-market support. This is proven by the existence of a variety of tools for the payment of capacities, which represent revenue in addition to that generated in the short-term markets. Thus, the current market model does not stimulate large-scale investments in production capacities.

It is clear that the mechanisms in the future EU energy policy that will determine the direction of investment will be entirely market-oriented. Thus, first of all, the new market model should be made clear in order to determine the pattern of investments and to allow investors to decide where to invest.

Regarding the other aspect of the issue – the expected dynamics of consumption – liberalisation alone cannot increase or reduce demand, it could redirect energy flows from places with lower prices to such with higher prices, or from one market segment to another, but consumption remains constant in general.

From this point of view, the Belene NPP project could be considered a market-acceptable solution depending on whether there will be demand and whether the Belene NPP prices will be competitive enough in comparison with other proposals at the moment to meet this demand. However, the risk for investors, which directly depends on the market model, remains at the core of the issue.

Does the achievement of the main objective — an integrated free electricity market in the EU, justify the price low-income countries like those in SEE will have to pay?

The Council of European Energy Regulators has warned that liberalisation should only take place when the following three conditions are available: financially stable energy companies, social sustainability and sufficient level of competition on the market. If liberalisation occurs in such conditions, there should be no burden and risks resulting from liberalisation.

Liberalisation takes place at a different pace in each country. In Europe, it started in the north and progresses to the south. And countries like us in the last round of liberalisation can benefit from the experience of mature markets and learn from their mistakes. Moreover, today there are many and more developed regulations, mechanisms and practices on an EU level regarding the energy market and consumer protection.

However, the role of regulators remains crucial in this process – they introduce rules and create a roadmap for deregulation on the one hand and keep monitoring competitiveness, transparency and integrity of the market, as well as consumer protection and equality of market participants, on the other hand.

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