The EU’s electricity market and why soaring gas prices are pushing up bills

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Soaring gas prices have pushed up energy bills across Europe and put the EU electricity market in the spotlight.

The way prices are set has been criticized not only by member states – Spain and France leading calls for changes to protect consumers from soaring costs – but also by Russia, where the President Vladimir Putin attributes the rise in gas prices in part to the EU’s decision to phase out. long-term contracts in favor of market-based prices.

The European Commission, however, has resisted pressure for major regulatory changes in the EU’s 30-year-old energy market. Brussels has released a “toolkit” of options to deal with soaring prices, such as direct income support and tax breaks, but is refraining from promising a radical overhaul of pricing rules.

Kadri Simson, EU energy commissioner, defended the system to pave the way for market liberalization and encourage investment in green technologies.

Why is the price of electricity rising?

According to figures from the Agency for the Cooperation of Energy Regulators (ACER).

At the heart of complaints from some countries is the EU’s energy pricing system. It operates on a common ‘pay as you clear’ model where wholesale electricity costs reflect the price of the last unit of energy purchased through auctions held in Member States.

In general, gas is the fuel needed to ensure that enough energy is supplied to meet demand.

So even in countries like France, where cheaper nuclear power provides around 70% of electricity, gas continues to determine the wholesale price of electricity. And as the price of gas has skyrocketed, so have the price of electricity.

Who benefits from the operation of the market?

The EU energy market has helped drive down prices across Europe since the late 1990s by accelerating the shift from long-term contracts for fossil fuels such as oil to natural gas and less energy consuming renewable energies purchased on spot markets.

Because prices are based on changing supply and demand dynamics, Europe has even experienced negative prices – especially at the start of the Covid-19 pandemic in 2020 – when supply has greatly exceeded the drop in demand. Between 2019 and 2020, European households experienced a 20% drop in the cost of gas, according to Eurostat figures.

Jan Cornillie, associate researcher at the European University Institute, said the EU energy market had “delivered very low prices for years”, but that a confluence of recent factors – largely outside control of policy makers – means that “this is one of the first times it is not working in our favor”.

“The lesson is not to remove design altogether but to add insurance mechanisms in times of high prices,” said Cornillie.

Brussels is also fiercely protecting a model which it believes is crucial to achieving its ambitious climate goals and accelerating the transition to renewable energies.

Marginal pricing means that all suppliers in the market, including cheaper wind or solar installations, get the price paid for the most expensive bid accepted, offering a bargain for capital-intensive technologies such as renewables. . “The market is not dominated by the big players and is open to small renewables,” Simson told the Financial Times.

Is there an alternative?

Finance ministers from France, Spain, Romania, Greece and the Czech Republic called for sweeping changes to “better link the price paid by consumers to the average cost of producing electricity in national production mix ”.

The commission promised to assess how this possible “dissociation” could be achieved.

European Energy Commissioner Kadri Simson

EU Energy Commissioner Kadri Simson said the scheme paved the way for market liberalization and encouraged investment in green technologies © AFP via Getty Images

But the appetite for radical changes is low. Changing marginal pricing rules would also require cumbersome EU legislation. Many member states, including Germany, the Netherlands and the Nordic countries, are likely to resist major legal changes in the face of a price spike which experts say is expected to subside by early 2022.

“To the extent that [the price surge] is a temporary phenomenon, so the response should be just as transitory, ”ACER director Christian Zinglersen told FT.

Would better energy stores make a difference?

One solution Brussels is working on is to find ways to increase the EU’s capacity to source and store natural gas so that it is available to mitigate price fluctuations in times of high demand. “Volatility is likely to stay and we have to work to accept it,” Zinglersen said.

Only a dozen Member States have their own strategic gas reserves.

In contrast, the EU already has strict rules on emergency oil stocks: each member state must keep crude oil for 61 days of consumption and continuously report stock levels to Brussels.

But the move towards establishing common gas purchasing and storage within the EU risks being hampered by technical difficulties and high costs. Natural gas is stored in underground reservoirs and the market is dominated by commercial players, including the Russian Gazprom.

“Only a few Member States may be able to offer storage sites on a sufficient scale, which again raises the delicate question of the division of costs between them”, noted Christian Egenhofer and Irina Kustova of the Center for European Policy Studies.

Energy Commissioner Simson said on Wednesday that Brussels would propose a “voluntary” system of joint storage and supply, encouraging countries wishing to participate but not creating mandatory rules.

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