Regulatory tightrope

The European Commission has proposed several emergency measures aimed at shielding households and businesses from price shocks, and has indicated that it also plans deeper reforms to the current wholesale energy market design. Listen to a discussion on the current sentiment in Brussels - what proposals are on the table and how effective will they be in mitigating soaring prices?

Host: Richard Sverrisson, Editor-in-Chief, Montel
 Guest: Siobhan Hall, Brussels Correspondent, Montel.

Transcript

Richard Sverrisson, Editor-in-Chief, Montel: 0:08

Hello listeners and welcome to the Montel Weekly podcast, bring Energy Matters in an informal setting. This week we return to a topic that has been making headlines and moving markets across Europe's Wholesale Energy markets regulatory intervention. While we won't get full visibility about the EU policy measures until the end of this month, when EU energy ministers are scheduled to meet, most of the proposals are on the table focusing chiefly on perceived market design failures, separating gas prices from electricity, lowering demand, and boosting supply. Helping me Richard Sverrisson to make sense of the market interventions proposed by the European Commission is Montel's Brussels Correspondent Siobhan Hall. A warm welcome to you Siobhan.

Siobhan Hall, Brussels Correspondent, Montel: 0:54

Thank you, Richard.

Richard Sverrisson, Editor-in-Chief, Montel: 0:56

Before we start I think it would be good to clarify exactly what the European Commission sees as a need of repair. Does it think the market is broken?

Siobhan Hall, Brussels Correspondent, Montel: 1:06

That's a very good question, Richard. What we have heard recently is European Commission present are underlying. Saying that the market is no longer fit for purpose, but I think it's important to distinguish here between two work streams as it were. So we have seen proposals come out last week, which are very much emergency urgent proposals, and at the same time, the commission is working on longer term reforms of the electricity market. So we've got two things going at the same time. Urgent measures now. And then we will have to wait and see what the longer term measures are. But the commission has definitely said it wants to reform the electricity market, so it does see a problem.

Richard Sverrisson, Editor-in-Chief, Montel: 1:51

Some of these are temporary and others are much more permanent then.

Siobhan Hall, Brussels Correspondent, Montel: 1:54

Yes. So we will be focusing on the urgent measures now, and then the longer term measures will require. Longer approval process, and so they won't come into effect for a year or two years, or possibly even three years time. So there are things that are gonna be happening this winter, and then there will be rules that will change where the impact will be later. But I expect that when people see what the impact of rules this winter was. That will also influence the longer term rules.

Richard Sverrisson, Editor-in-Chief, Montel: 2:24

So there'll be some kind of interplay between the two measures, you reckon? Absolutely. Yeah. Yeah. No. Interesting. Yeah, I think, obviously things on, on, when you're making permanent changes to things like market design, it doesn't happen overnight. These things take years within the eu. The cogs of Brussels get into effect and that obviously take takes time. But which. From your perspective, you are on the ground in Brussels, you follow it very closely. Siobhan what, what elements of the current market design does it want to change or does it deem a not fit for purpose?

Siobhan Hall, Brussels Correspondent, Montel: 2:55

So the key problem at the moment is the high gas prices affecting power prices. As we know, the current market design is all about the merit order. So the cheapest power plants come on first to meet demand and marginal pricing. So basically at the moment, gas fire plant tend to be the most expensive plant. When they come online, they set the price for all the generators who have already provided power, who have lower costs. And so what is. The generators who have those lower cost technologies, that could be things like nuclear renewables lignite plants. They're all making lots of money at the moment in principle because they're gaining from this very high marginal price, which is being set by the gas plant. And so one of the proposals from the commission is to use some of those, what it would see as. Excess revenues over what those low cost generators could have expected, and use those excess revenues to give financial support to customers who are suffering from the. The high energy prices,

Richard Sverrisson, Editor-in-Chief, Montel: 4:05

and this can be done at an EU level across the board.

Siobhan Hall, Brussels Correspondent, Montel: 4:09

Yes, so the goal is that they, what they have proposed is an EUI cap on revenues for those lower cost generators, and they've set it at 180 euros per megawatt hour, which they argue is well above. The level that the people who invested in the low cost generation would've expected to get as a return. So their argument is you're getting plenty of money to cover your costs and to make the investment decisions that you would've made. Anyway, we're just saying if it goes, anything that goes above this level will be. Taken by governments to help solve this urgent, immediate problem that we're expecting this winter.

Richard Sverrisson, Editor-in-Chief, Montel: 4:51

And was that, is that level, is it an arbitrary level? It's they, initially they were talking about 200 euros, a megawatt hour, weren't they? And they've come down to 180. Is that due to some, why is that changed? Do you know why they made that change?

Siobhan Hall, Brussels Correspondent, Montel: 5:03

I dunno why they made that change, but you made the point at the beginning that we won't know what the final rules will be until the EU energy ministers have had a chance to say what they think of proposals. So there's always the possibility that they may change this level of 180 megawatt hours, 180 euros per megawatt hour. What the commission says in its proposal is that national governments are also free to set. A lower level if they want. So if they have a generation system which has particularly low costs, they could set their revenue cap at a lower level in order to generate, in order to skim off more revenues to help customers. So yes, this is one of the things we don't really know until member states agree it and then start implementing it. So I would take the 180 euros per megawatt hour as the headline figure for now, and we'll know more in the weeks to come.

Richard Sverrisson, Editor-in-Chief, Montel: 5:56

Ab, absolutely. It's still a little bit unclear, but how would this be administered or managed? Do? Is there any sort of clarity on that at all, Siobhan?

Siobhan Hall, Brussels Correspondent, Montel: 6:06

No, not really, because the commissioners also made the proposal at the moment so that national governments would have some flexibility in the way that they administer it. So flexibility. At the point where they would make the calculation or the point that they would collect the revenues or how they would collect the revenues. At the moment, it's really not clear how that will happen. It's been left. As far as I understand, deliberately vague at the moment to give member states the opportunity to decide is it gonna be through regulators, is it going to be through some other national authority? It would be really up to the member states to decide on those rules. So obviously that's the. Quite a lot of uncertainty for utilities and power generation, power generators, because not only will they have to wait and see what the ministers decide, that we go into the proposal, but then they'll have to wait again to see what their own national government will decide on how to implement it. And at a national level.

Richard Sverrisson, Editor-in-Chief, Montel: 7:06

No. Interesting. I think. You mentioned the marginal pricing model and the merit order. That the way that's governed the way wholesale energy markets have worked for decades now, ever since we've been covering these markets. You want, so that, do you think, this is not that, this temporary measures, not putting it into that, if you like,

Siobhan Hall, Brussels Correspondent, Montel: 7:26

I think it's going to be clearly a practical example of how a change to the market design might work. Or what, or rather what a change to the market, what impact the change, a change the market design would have. It's not a new idea to change the marginal pricing. As soon as people began to see that there were going to be higher shares of renewables in the system, the call to change the marginal pricing models was coming from various groups. Before there was this temporary emergency caused by many factors. But in the past, the commission has always defended marginal pricing. Acer, the EU regulatory agency has also in the past defended marginal pricing as being a good way to encourage people to invest in lower cost technologies. The idea is with the marginal pricing, you only use your most expensive part for a short period of time, and you are creating bigger revenues for the lower cost generators, which would imply an incentive to invest. In lower cost generation. So it's interesting. Clearly they are going to be proposing something. We're expecting longer term proposals in January. They're going to be proposing something which will be different from what has gone before.

Richard Sverrisson, Editor-in-Chief, Montel: 8:44

We, a couple of e episodes ago on, on the podcast, we, I talked to Stephen with us of Afry, and he was a storch defender of the marginal pricing model. But I think it's clear now that the commissions. Sees the end in sight is it, is there if you like for the Marshall Prize or maybe some adjustments. Not fit for purpose is quite, this is quite strongly worded.

Siobhan Hall, Brussels Correspondent, Montel: 9:06

Yes. As renewables tend to require a lot of upfront capital investment and they have low marginal costs to run, and that's a very different market business model from the gener, from the gen, from the technologies that the market has been designed around for previous decades. It's still not clear. I don't know if it's clear yet what a good alternative would be, but clearly as the share of renewables goes up, and that is something that the commission definitely wants. The commission definitely wants to share of renewables to go up. It would be, it seems likely that the commission would need to. Address some of the issues that come with having a share of renewables with issues heading towards 60, 70% of the overall power market. And, and. Back in the day, there was talk of, when people talked about a hundred percent renewable system, it was considered very extreme. But now it seems, it doesn't seem so extreme at all. So there are lots of things that have lots of positions that have moved a lot in terms of what people think is feasible or not. In the last few years, the commission, they only redesigned the market des the EU power markets a few years ago. And then they said it's to help integrate larger quantities of renewables, but they're gonna have to come again and go, and we want to integrate. Even larger quantities of renewables. So we need to tweak the rules again.

Richard Sverrisson, Editor-in-Chief, Montel: 10:35

So starting from scratch again, or building on what they've done before?

Siobhan Hall, Brussels Correspondent, Montel: 10:40

I think it, it will have to be building on what's gone before because the EU power market is so complex, and that's one of the things that you hear a lot when people are discussing the policy interventions. And when commission officials are discussing it, they often refer to. How complex the power markets are and how they spent years obviously creating as integrated in EU power market as they can. And because you now have this very large, generally integrated market, then any changes you make affect a lot of people at the same time. So it is something that they're not going to do. They're not going to, they're not going to rush any of the longer term reforms. They've had to rush to come up with these emergency measures, but they're very much saying, for all the longer term re reforms we need very thorough analysis. And of course, those longer term reforms would have plenty of time to be discussed and debated by all the actors. In the system

Richard Sverrisson, Editor-in-Chief, Montel: 11:39

and going through all the due processes and consultations, et cetera.

Siobhan Hall, Brussels Correspondent, Montel: 11:42

Yeah.'cause obviously with the emergency measures it's under an emergency provision, which means only national governments need to agree on it. But anything longer term would have to be agreed by the European Parliament as well as national governments and, and that process opens up to a much more diverse and longer debate.

Richard Sverrisson, Editor-in-Chief, Montel: 12:04

If we return to the short term sort of emergency policy interventions that are coming or we'll get clarity on in a couple of weeks, you want, how have those been received, both in Brussels and beyond?

Siobhan Hall, Brussels Correspondent, Montel: 12:16

So the gut reaction of most people involved in markets is that interventions in markets by national governments generally speaking. It's bad. And and I think even if, when they I saw some stories that people are concerned that it would affect long-term investment decisions and and I think it's just obviously the basic principle of. If you're an investor, you are always quite unhappy when governments start interven intervening in your market because you're never quite sure what the outcome will be and where it will end. Generally speaking, the principle of the market intervention is not particularly. Light, these actual market interventions. Perhaps they've set the cap high enough that it won't actually cause a problem for people. And if it is temporary and short term, and everyone does see that there is a problem with high prices and very high prices don't necessarily help companies in the way that you might think because we know for utilities and so on, as the power price goes up, the amount of. Collateral they have to put forward in order to be able to trade. Power goes up. So it's not a case of high prices mean someone wins without any other issues and certainly the the proposals around. Helping to sustain liquidity in the market and helping companies with the collateral, they are generally welcomed.

Richard Sverrisson, Editor-in-Chief, Montel: 13:46

No, absolutely. We also, we talked about this podcast about the winners and the losers and there's some spectacular losers and some spectacular winners as well. If you are, you have very low marginal costs and you are reaping, you are generating. At or receiving revenues, 500 euros a megawatt hour above. I think you're certainly making, I think it would be fair to say excess profits or profits unimaginable when you invested in those facilities anyway. I think that would be fair to say. Yeah. But there are some other proposals on the table and one which didn't quite make it in the end there was this the price cap on Russian gas imports. What happened there, Siobhan?

Siobhan Hall, Brussels Correspondent, Montel: 14:21

So the price cap on Russian imports. Is something that the commission is keen on because it, it keeps talking about it. The problem is that the countries in the EU all have a different level of dependency on Russian gas, and some are more worried about the impact of a full Russian gas cutoff than others. And we know that Putin, Vladimir, the Russian president, Vladimir Putin, has said if there's a gas price cap. That's it. They'll stop supplying gas to the eu. So that is that threat is more or less severe depending on how much you depend on the Russian gas that still flows, the commission's view. So the reason the commission hasn't proposed it so far is essentially they don't have enough support for it, and they don't have enough support for what they have at the moment. So they will have to come, they will have to keep working at it to see if they can come up with something that can, that would get consensus from enough EU countries in order to fly. From what I've seen, the commission's position is given that the Russian G flows have. Reduced so much just in this year. So it was about, Russian Russia was supplying say about 40% of the EU gas last year. It's down to about 9% I think, at the moment. And so the commission's point of view is it's much lower than it was before. Let's put a cap on it and take the risk that they might shut it off. But let's put the cap at a level where. It would be in, it would still be in Russia's interest to supply because they would, they don't make any money if they cut it off entirely. If they supply at the cap, they would still be making, they would still be making money. So it's difficult to know how that one will go. It really depends on. Yeah, it really depends on how certain countries react and whether they can make, whether they, I think the commission would have to find a way to reassure certain countries that if there was a full cutoff in Russian gas, that if they gamble and lose that those countries will be looked after by the other countries. So it's a question of solidarity and whether the commission can really reassure them that they won't be the ones to take the brunt. Of the adverse impacts if Russia decides to cut off gas.

Richard Sverrisson, Editor-in-Chief, Montel: 16:47

So those countries, you mean mainly Eastern and central Europe Italy even maybe.

Siobhan Hall, Brussels Correspondent, Montel: 16:51

Exactly. Yeah. I mean it would, yeah, I would say those countries to the east of Europe who have historically been more dependent on Russian gas. Italy obviously is, has other options, but it's a bigger gas demand. Has a higher gas demand. The Eastern European countries, a lot of the small Eastern European countries don't have very high gas demand relative to say Italy or Germany. But if they can't find. If you can't get alternative supplies to them, then they will suffer more. Italy has at least has some more options to source from other supplies.

Richard Sverrisson, Editor-in-Chief, Montel: 17:29

Another measure that was flying around was the sort of Spanish intervention, which was, capping the price of gas for those that generate from that fuel in the wholesale market. But that doesn't seem to have made it to the EU level.

Siobhan Hall, Brussels Correspondent, Montel: 17:42

No. I suppose the. So there's this other proposal, which is to require oil and gas companies to pay a portion of their excess profits as a contribution, which to governments, which could also be used to help support end users and customers. So it is, that's different in the sense that it's a it applies to all companies. With EU activities who are active in oil or gas or refining and who have benefited from the high fossil fuel prices. And that would be that they would have to make a contribution based on their excess profits and excess profits being profits that are at least 20% higher this year than they have been over the previous. I think it's three years. So that's another way of clawing back some money from people who wouldn't necessarily have expected that money anyway, and using it again to subsidize end users who are facing the high prices.

Richard Sverrisson, Editor-in-Chief, Montel: 18:48

Is there a feeling in Brussels at all, Siobhan that, amongst sort of energy lobby groups and firms that you know. That the energy sector has to bear the brunt of these kind of interventions, that other sectors are also making quite a lot of profit in the current environment. Say for example, the pharmaceutical, but pharmaceutical industry, but has ha has there been any kind of criticism or grumbling of discontent from the energy sector in Brussels?

Siobhan Hall, Brussels Correspondent, Montel: 19:17

I think a lot of the discussion at policy level. Is based on the fact that high energy prices tend to inflate prices in other sectors. So because energy is at the base of a lot of other products, and so the price of chemicals or seal or whatever goes up because energy prices go up, and obviously we've seen very high inflation rates. So from a policy level. The energy sector is the root cause and tackling. Tackling the issues in the energy sector or finding ways to mitigate the impacts of this problem in the energy sector is where they want to go. I'm, I haven't seen much about other sectors, but I'm a specialist, so I haven't looked so I can't tell you.

Richard Sverrisson, Editor-in-Chief, Montel: 20:11

No, exactly. It was a bit of a long shot there, Siobhan. But I think also, and the key factor here is of course, that these prices and the prices that are forecast to come in the retail sector for the coming six months or year will. Plunge a lot of households into fuel poverty, and obviously that's something that commission and policy makers want to avoid at all costs. And that's a huge factor here. But there are other proposals, aren't there? There's demand cuts. Can you talk us through those? What it, what the commission was, has has planned or proposed?

Siobhan Hall, Brussels Correspondent, Montel: 20:39

Yes. So the proposal's under mark cuts. That. The key proposal on demand cuts is really this an effort to cut the cut peak demand because peak demand is normally the one that's fulfilled by expensive gas plant. So the idea is if you can shift demand away from the peak, not only do you. Not have to pay the prices that are set by gas fired plant, but also if you're not using those gas fired plants, then you're not using as much gas overall. So it also feeds into the goal of using less gas generally this winter. So those, as the commission has proposed it, those peak demand. Cuts would be binding and they're looking for a 5% reduction in peak demand on about I think it's about 10% of peak demand hours. So that's a really targeted. Goal, and it's interesting that they're saying that should be binding because when the commission came before the summer with some proposals to reduce gas demand this winter, they, when they made the proposal, they proposed it as we want national governments to attempt to cut their gas demand. It's voluntary. And if that, if they don't manage to achieve it, only then will we talk about making it binding. But with the electricity market, this goal to try and cut peak demand is so urgent and so important. They're coming straight with, we want this to be binding and we want you to agree to this as a binding goal. And then they have a non-binding, a voluntary goal to cut overall electricity demand by 10%. But it's really the peak demand because you have this double whammy that you are helping. The price is not rise so high because you're not using gas fired plant and you're also saving the gas. That would've been in this, used by those gas by plant.

Richard Sverrisson, Editor-in-Chief, Montel: 22:29

So it's an indication, if you like how urgent and how completely what an emergency situation it is really so that they have to change this language from sort of num from binding. So non-binding to binding and mandatory. Yeah. Absolutely one very interesting. But at the same time, they're also looking to, to they boost supply. You wrote a story for us about the EU getting together a task force working with Norway to try and increase gas. Can you talk us through what was that all about?

Siobhan Hall, Brussels Correspondent, Montel: 22:54

So they, so the commission said they've been in talks with the Norway just to see whether they can find a way to. Reduce gas prices. And there's a task force, they set up a task force to do this.'Cause one of the problems this sort of comes back to the, in some ways the talk we, what we were saying about the gas price cap, the commission is wary on the, of a gas price cap generally because they want to attract gas to Europe and obviously. LNG, so not pipeline gas, but LNG that is being shipped. We are in competition with other parts of the world. So Norway, we are getting mostly pipeline gas, and so we're looking at ways whether the commission wants to look at ways with Norway, whether they can find a way to sell that gas in a way which is not so expensive. But at the same time, make sure that European gas prices are high enough that it will attract LNG. And then that also brings us to an interesting proposal for the commission where they're also looking at whether it's worth having a separate index for LNG gas from the pipeline gas, because they see a disconnect now between the two markets because the pipeline gas. Is being affected very much by the Russian, by the fallen Russian gas flows and LNG markets are affected by what goes on in the rest of the world. So whether that will happen or not, again, you don't get an index overnight

Richard Sverrisson, Editor-in-Chief, Montel: 24:28

no, exactly. This, that can discuss.

Siobhan Hall, Brussels Correspondent, Montel: 24:31

Yeah,

Richard Sverrisson, Editor-in-Chief, Montel: 24:32

so I was gonna say that can't be one of the short term emergency measures. No, because that's more a long term issue, isn't it?

Siobhan Hall, Brussels Correspondent, Montel: 24:36

Yeah, exactly. Yeah.

Richard Sverrisson, Editor-in-Chief, Montel: 24:37

And I think I think market participants will, will eagerly wait for more clarity on that because that's a clear intervention into the mechanics of the wholesale market, which there hasn't really been on the table before, has it in such a way.

Siobhan Hall, Brussels Correspondent, Montel: 24:51

So actually the commission has been interested in an LNG index for a few years now, when it started to see the share of LNG in the market start to tick up. But obviously, again, this is quite a recent phenomenon. As we know a few years ago, a lot of LNG terminals were well under capacity for imports. So there are a lot of plates spinning at the same time. And, yes. I think the thing that I really notice in these current days is a lot of ideas that were milling around for some years but not getting much credence or backing are now rising to the top. And we're hearing things that a few years ago, people would've thought there's no way that would happen. And now. They're being proposed and people are agreeing to it. It's really interesting time to be looking at this.

Richard Sverrisson, Editor-in-Chief, Montel: 25:44

Exactly. Some, I dunno whether they call them wacky ideas, but certainly some of these kinda ideas are getting more traction now. Yeah. That's interesting. Yeah, absolutely. I'm sure we'll turn to this, return to this topic again in a few months time, Siobhan, but thanks very much for a lightining on us on what's actually happening on the on, on Brussels and what the thinking is. Thank you very much for being part of the Montel Weekly podcast this week. Listeners, you can now follow the podcast on our own Twitter account, aply named the Montel Weekly podcast. Please direct message. Any suggestions, questions, or, let us know if you think you have a good idea for a guest on the show, you can also send us an email to podcast@montelnews.com. Lastly, remember to keep up to date with all that's happening in energy markets on Montel News. You can subscribe on Apple Podcasts and Spotify or wherever you get your podcasts from. Thank you and goodbye.