Energy Crisis: Is the solution to intervene in prices or free market?

Madrid, February 2, 2023.- Europe is experiencing a true transformation of energy supplies to change the countries of origin, the most solvent energies today, prepare the energies of tomorrow such as green hydrogen, the construction of new infrastructures, look with other eyes nuclear energy, etc. While this is happening, the debate arises as to whether public intervention in energy prices is beneficial.

For example, Australia has opted to intervene in the price of energy with these results: “The latest Treasury forecasts have been released, showing wholesale gas prices are down. In Queensland they’re predicted to drop by 44 per cent, while in New South Wales they’re likely to go down by 38 per cent. South Australia is expecting a 32 per cent decrease, and in Victoria, it’s 29 per cent. Those figures date to December 21st, less than a week after Parliament was recalled to pass the assistance package”.

Another example: “Spain and Portugal Energy Island” with an interconnection capacity of 6000 MW, Spain and with it the Iberian Peninsula remains largely an energy island that can hardly participate in the European electricity market. This means a level of interconnection capacity of only 6%, far behind the 15% interconnection target contained in the new regulation on the governance of the Energy Union.The French and Iberian markets are interconnected thanks to two gas pipelines crossing the border at Larrau and Biriatou. The two pipelines offer an exchange capacity of around 7 billion cubic meter/year. For gas, there is no interconnection target established at European level.

Finally, Spain and Portugal got Europe to approve their energy island. And from other countries, such as the UK, reviews like this one were read: “In mid-october, off the Spanish coast, a number of slow-moving metallic domes emerged on the skyline. They were tankers, pregnant with superchilled liquefied natural gas (lng) and awaiting delivery at busy “regasification” terminals, where their liquid fuel is turned to gas before being transferred across the continent. Iberia has the biggest facilities in Europe, but congestion is building elsewhere, too. The amount of lng off European shores has hit 1.2m tonnes, according to Kpler, a data firm, up from 140,000 in August. At least the crews have beautiful weather in which to relax. Across Europe, temperatures are unseasonably warm: southern Spain is still seeing days above 30°C. This combination of plentiful gas and warm weather, which reduces demand for the stuff, is a nightmare for Vladimir Putin, and has led some optimists to declare that an end to Europe’s energy crisis is in sight. For months Russia has sought to sow division in Europe and undermine support for Ukraine: first by demanding payment for gas in roubles; then by slashing flows through Nord Stream, its main pipeline to the continent; and then, in September, by shutting the conduit indefinitely”. 

The reaction of the European Union

The Commission proposed a new temporary emergency regulation on 9 November 2022 to accelerate the deployment of renewable energy sources. The proposal complements previous emergency measures to tackle the exceptional situation on the energy markets and to accelerate the clean energy transition. It will apply for one year, covering the time needed for the adoption and transposition of the Renewable Energy Directive, currently discussed by the co-legislators in all EU countries. Granting significantly faster permit procedures will accelerate the pace of for example solar equipment installations on artificial structures, such as buildings, repowering existing clean energy plants and the rollout of heat pumps in industry and in buildings.

political agreement was reached on 19 December 2022. The temporary rules are valid for 18 months and imposed the obligation that permit-granting takes no longer than 3 months for solar energy equipment, 6 months for the repowering of renewable energy power plants, 1 month for heat pump installations below 50MW and 3 months for ground source heat pumps.     

Market Correction Mechanism

On 22 November 2022, the Commission proposed a Market Correction Mechanism to protect EU businesses and households from episodes of excessively high gas prices in the EU. The proposed instrument contains safeguards to avoid disruption to the energy and financial markets.

EU energy ministers reached a political agreement on the Market Correction Mechanism rules on 19 December 2022. The mechanism is temporary and will apply for 1 year, entering into force on 15 February 2023. It will be automatically activated if the month-ahead Title Transfer Facility (TTF) price exceeds €180/MWh for 3 working days and if the TTF price is €35 higher than a reference price for LNG on global markets for the same 3 working days. Market corrections will be monitored by the Agency for Cooperation of Energy Regulators and published on their website.

Energy efficiency’s role for energy prices

Energy efficiency aims at a progressive reduction of energy consumption across all sectors, and is a necessary pre-condition to the clean energy transition. Especially in the context of high energy prices, energy efficiency measures and investments have an important role to play in

  • strengthening the resilience of the EU energy market
  • mitigating the macro-economic and social impacts of high energy prices, notably risking to drag many households into energy poverty
  • reducing the energy consumption and minimise our dependence on energy imports

Investing in energy efficiency is the most cost-effective way to save energy and reduce energy bills for public authorities, citizens and businesses. The REPowerEU plan proposes to raise the ambition of the Commission’s 2021 proposal for the EU energy efficiency target to ensure a 13% (rather than 9%) reduction of energy consumption by 2030, compared to the 2020 reference scenario projections. REPowerEU also includes an energy savings plan aiming to reduce overall energy consumption.

Progressing in the uptake of both energy efficiency measures and related investments is important, as medium to long-term measures will contribute to reducing energy prices, provide affordable and clean energy to households and companies and overall increase the resilience of the EU’s energy system and the internal energy market.

EU countries have currently planned a number of such actions, as part of their Recovery and Resilience Plans. The need to accelerate energy efficiency investments is not only key to mitigate the impacts of high energy prices, but it is also economically beneficial to take advantage of the reduced payback time for energy efficiency and building renovation investments. Many local commercial banks across the EU offer energy efficiency mortgages and financial lending products with lower credit risk and interest rates.

Energy pricing models

As in other sectors, the EU electricity market has a number of different players in the supply chain – from producers (or generators), to suppliers to end-consumers – with wholesale prices at one end and end-user prices at the other.

The wholesale market in the EU is a system of marginal pricing, also known as pay-as-clear market, where all electricity generators get the same price for the power they are selling at a given moment. Electricity producers (from national utilities to individuals who generate their own renewable energy and sell into the grid) bid into the market: they establish their price according to their production cost. Renewable energy sources are produced at zero cost, and are therefore by definition always the cheapest. The bidding goes from the cheapest to most the expensive energy source. The cheapest electricity is bought first, next offers in line follow. Once the full demand is satisfied, everybody obtains the price of the last producer from which electricity was bought.

This model provides efficiency, transparency and incentives to keep costs as low as possible. There is general consensus that the marginal model is the most efficient for liberalised electricity markets. In fact, it was used by most EU countries before being anchored in EU legislation.

The alternative would not provide cheaper prices. In the pay-as-bid model, producers (including cheap renewables) would simply bid at the price they expect the market to clear, not at zero or at their generation costs.

Overall, it is better for consumers to have a transparent model that reveals the true costs of energy and provides incentives for individuals to become active in generating their own electricity.

Photo by Federico Beccari on UnSplash