Brazil: Brazil's Electricity Market: A Successful Journey And An Interesting Destination

The beginning of the journey

Brazil is the third largest energy market in the Americas, after the United States and Canada, and its growing power sector is the largest in Latin America. Electricity consumption growth rates fluctuate at around 5% per year, demanding the entrance of an average of 3GW every year. The entire electricity sector was overhauled in the late 1990s, the aftermath of which continues to drive reform, innovation and opportunity in the market. Brazil has made significant progress on its transformational journey away from having an inefficient and underinvested state-owned electricity sector on the brink of collapse, and can today celebrate its achievements in having introduced unprecedented levels of competition in its electricity sector. That all of this has come about in so short a period of time is impressive: today the electricity sector offers investors an exciting and dynamic market which would have been a closed shop a little over a decade ago. However, there are still issues and weaknesses in the system: now may be a good time to consider where Brazil's ongoing journey may lead to next.

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The beginning of the journey

Brazil is the third largest energy market in the Americas, after the United States and Canada, and its growing power sector is the largest in Latin America. Electricity consumption growth rates fluctuate at around 5% per year, demanding the entrance of an average of 3GW every year. The entire electricity sector was overhauled in the late 1990s, the aftermath of which continues to drive reform, innovation and opportunity in the market. Brazil has made significant progress on its transformational journey away from having an inefficient and underinvested state-owned electricity sector on the brink of collapse, and can today celebrate its achievements in having introduced unprecedented levels of competition in its electricity sector. That all of this has come about in so short a period of time is impressive: today the electricity sector offers investors an exciting and dynamic market which would have been a closed shop a little over a decade ago. However, there are still issues and weaknesses in the system: now may be a good time to consider where Brazil's ongoing journey may lead to next.

Development and deterioration: 1970-1990

After a period of rapid development in the 1970s, by the late 1980s the largely state-owned power sector in Brazil was on the verge of collapse. The sector had deteriorated as a result of heavily subsidised tariffs and a large shortfall in revenue, which in turn led to underinvestment in the sector as a whole, and delays in the construction of new plants to increase generation capacity.

1990s Reform and investment

In 1996, the government led by President Cardoso, which had pledged to implement radical reforms in the electricity sector as part of its election manifesto, initiated the Project for Restructuring the Brazilian Electric Sector ("RE-SEB"). The objective of RE-SEB was to establish a competitive power sector by allowing for the participation of capital from the private sector, and to privatise many of the state-owned utilities and assets (excluding transmission assets). As a result of these reforms, private investors spent approximately US$10 billion in buying out 85 per cent of the country's existing distribution in the form of government-granted concessions with price cap regulation. Any increases in future demand would be met by freely negotiated new energy contracts, which would be less prescriptive in terms of price cap regulation, but would set out limits on pass-through energy costs.

The initial reforms also led to the creation of the Agência Nacional de Energia Elétrica ("ANEEL"), a quasi-independent industry regulator. Further reforms followed in 1998 with the creation of independent operators of the national transmission system (the "ONS") and the commercial market (the Mercado Atacadista de Energia Electrica ("MAE")).

Following the reforms of 1996-8, new capital was attracted from the private sector, with foreign investors such as Tractebel, AES, Prisma Energy, El Paso and Duke acquiring state-owned assets and becoming significant producers. In addition, local investors invested heavily in the national generation sector. Other newcomers to the Brazilian electricity market included EDF, Endesa and Chilectra, who focused their investment on the distribution segment, where privatization brought improved quality of service and a reduction of theft, non-payments and technical losses.

The energy crisis of 2001-2

Whilst the reforms of the late 1990s were a bold attempt to overhaul the failing system which preceded it, serious issues remained in the sector which the initial reforms failed to address. Growth in capacity continued to lag far behind growth in demand, and the country relied heavily on hydroelectric generation for 80 per cent of its electricity. Delays continued in the expansion of the sector due in part to the uncertainty in the definition of pass-through prices which complicated pricing mechanisms.

After a few years in which average rainfall had been significantly lower than expected, reservoirs were depleted, and strict demand reduction programmes had to be implemented by the Crisis Management Board, established and led by President Cardoso in June 2001. The Board had powers to implement emergency measures such as special tariffs, compulsory rationing and blackouts. Additionally, the government established a quota system based on historical and target consumption levels, and a corresponding bonus and penalty scheme whereby consumers were rewarded or penalised according to whether they fell within or exceeded their quota.

The government's goal to reduce consumption by 20 per cent was achieved, and the quota system proved so effective that the government paid out over US$200 million in bonuses to residential, industrial and commercial consumers. Additionally, the government succeeded in avoiding blackouts and brownouts during the crisis. The response to the crisis was successful in reducing consumption and conserving resources. The biggest losers in the crisis were generators and distributors who inevitably experienced significantly reduced revenues.

Renewed efforts to reform under President Lula

Following the energy crisis in 2001-2, and the election of the new administration led by Luiz Inàcio Lula de Silva in 2003, there was some speculation that the initial reforms of the late 1990s might be rolled back. As the reforms of the 1990s were so closely followed by the energy crisis, there was widespread criticism and scepticism of the new model, and some expectation that the sector would be fully regulated and effectively returned to government control. However, contrary to these expectations, the new administration continued to seek long-term private investment into the sector, and to introduce more competition into the market to drive efficiency that would protect the interests of captive consumers. The institutions established by the reforms of the 1990s were preserved and in many cases strengthened, and further reforms were implemented, including the introduction of energy auctions, to consolidate and improve the new model.

Energy auctions: competition for the market, not in the market

One of the defining elements of the 2003-4 reforms adopted by the Lula administration was the establishment of energy auctions as the main procurement mechanism for distribution companies to acquire electricity wholesale to serve their captive customers. Auctions were introduced in part to confront the uncertainties and complexities associated with cost pass-through and pricing which had dogged the initial privatisation of the existing distribution sector in the first wave of reforms.

The resulting auction process at present takes place only in the 'regulated market', in which energy is purchased by distributors for supplying on to captive consumers. In the 'free market' independent power producers ("IPPs") and large industrial consumers ("LICs") freely negotiate to acquire electricity directly from generation companies, and enter into long-term contracts at prices that are usually calculated by reference to the regulated market. Captive consumers account for about 75% of the total electricity market and consume roughly 70% of the electricity generated. The remaining 25% is represented by trade between IPPs and LICs in the free market. LICs consume approximately 30% of the electricity generated.

Under the auction process in the regulated market, the procurement of new capacity is carried out through two public auctions every year, in which (at present) 64 distribution companies bid for energy to supply electricity to their captive consumers. The distribution companies are required to procure 100% of the electricity they distribute via the auction process. Following a successful offer and bid, each generating company will sign separate, bilateral contracts with each of the distribution companies. Any premium and passed-on costs which distribution companies may charge consumers on top of the wholesale auction price are regulated. In bidding against each other, distribution companies procure the electricity at a competitive price, which is the best way to protect captive consumers and ensure value for money and efficiency in the wholesale market.

There is not however full retail competition in the market: retail consumers are bound to purchase electricity from a particular distributor. Only LICs and IPPs may participate in the free market. The competition in the regulated market is, therefore, in securing the ability to supply under a long-term supply contract at a competitive price (competitors for the market), not in securing individual retail consumers (competition in the market).

Auctions for 'old' and 'new' plant in the regulated market

Generation supply sold in the regulated market to distribution companies is sold as either 'old' energy or 'new' energy. During the reforms of the 1990s the government decided to re-contract electricity generated by existing plants that were already contracted in the 1990s (old energy) separately from the energy provided by new plants not yet built, or by existing plants that meet certain criteria (new energy). Contracts for new energy have a long duration (15 to 30 years) while old energy contracts are for the short to medium term (1 to 6 years). The rationale behind this decision was to avoid the price difference between old and new energy rapidly converging, given that tariffs for old energy were inevitably lower as the plant required for generation was already installed and paid for. Going forward, the government will need to decide what to do with the large blocks of old energy when the current contracts for supply from old energy expire. A particular concern will be to make sure that large blocks of old – and cheap - energy in the contract market do not reduce wholesale prices and undermine the appetite to invest in new, green-field plants to be built.

The auction process in the future: recommendations for improvement

The introduction of auctions has been a success, and has been seen to have complemented and built on the reforms of the late 1990s. Most ongoing criticism has more to do with the way in which the auctions are designed and conducted, rather than whether the auction system should exist at all. It is almost unanimously agreed within the sector that the auction mechanism has been successful and is here to stay. Brazil is taking the concept beyond existing generation and is designing auctions for wind power, and across its borders, Chile, Columbia and Peru are using the Brazilian model in developing their own auction models. Nevertheless, some improvements are still necessary, and analysts of the sector have proposed a number of recommendations:

  • There are concerns as to the degree of transparency of the auctions, particularly in the dissemination of information between auction participants which may allow auction managers to have too much flexibility to establish unclear and unchecked parameters before the auction begins. It has been suggested that independent audits be conducted to evaluate conformity with the auction rules and the conduct of all parties to the auction, and that these audits be communicated with all necessary parties to give investors comfort as to the transparency of the process.
  • The roles and responsibilities of the various parties involved in the auction process are not always clearly understood by investors. It has been suggested that the roles of ANEEL, the ONS and other public bodies should be set out more clearly, and that the implementation processes which each body is responsible for should be better explained.
  • Until now, auctions have only traded energy within the regulated market to distribution companies. In the free market, there is freedom of contract and no obligations are imposed on LICs and IPPs to secure their requirements via long-term contracts. There is concern that, in the absence of long-term contracts in the free market, there will be no guarantee of the expansion of generation to supply this market, thereby jeopardizing the sustainability of the power sector as a whole. There is also the possibility of structuring an auction mechanism with the participation of the non-regulated segment, which would see the regulated and free markets merge closer together (which is anticipated by a number of market analysts).
  • It would be sensible to have more variety in the types of participants at auctions. Whereas, at the outset, only the generators understood the market, as the market has evolved, it has become increasingly necessary to have a wider range of expertise participating in the auction process. Increasing participation to include a greater range of participants at auctions to include parties such as energy market makers, IPPs and companies that offer load reduction has been suggested.

Planning for further development: the government's vision

As well as modifying the auction process, it remains an essential objective of Brazilian energy policy to:

  • continue planning for the future as a whole, taking into account the need to increase generation capacity and transmission reliability;
  • work towards achieving an adequate level of energy security; and
  • protect consumers from high prices.

As the government's intervention during the energy crisis in 2001-2 demonstrated, it is more than prepared to take an active role in emergency situations and does not delegate responsibility in a crisis to the private sector. Since the resolution of the crisis through the effective implementation of rationing, developing a coherent strategy for sustained development in the electricity sector has remained a central part of government policy, and is not left to the invisible hand of the market.

Auctions themselves, for example, are designed and organised to meet government strategy. Given that distribution companies have to contract 100 per cent of their load through the auction process, and as competition for the market is based on expected demand, accurate load forecasting by distribution companies is essential in advance of procuring contracts to supply to captive consumers. Where a distribution company miscalculates its load forecast and procures more or less electricity than it needs, it will face penalties for doing so.

Additionally, following the election of the Lula administration, the Power Research Company ("EPE") was established in 2004 with the specific mission of developing an integrated long-term plan for the power sector in Brazil. Its remit is to conduct research and produce reports and recommendations for strategic planning purposes on areas such as power, oil and gas, coal, renewable energy resources and energy efficiency. Its work serves as a basis for the development and eventual implementation of national energy policy at government level.

The regulatory framework: evolving with experience

The regulatory framework of the electricity sector inevitably changed dramatically following the RE-SEB reforms, and has since continued to evolve as the market has developed in subsequent years. Regulation continues to focus primarily on distribution, particularly insofar as is required to oversee the auction process and to protect captive consumers unable to freely negotiate the terms of their electricity supply. The regulatory regime has been a key ingredient in improving the efficiency of the distribution segment.

Over time, new public bodies have been put in place, which are answerable to the Ministry of Energy and Mines ("MME"), which itself directs sector policy and legislation. Of all the regulatory bodies which fall under the ambit of the MME, ANEEL is certainly the most important, with a broad, keystone role to play in regulating the generation, transmission and distribution of power in accordance with government legislation. Whilst a number of market analysts point to gaps in the legal and regulatory framework, and suggest that ANEEL's remit in particular requires further modification, it has been praised for its transparency, particularly with regard to its oversight of the steady development of the auction model.

The ONS falls within the ambit of ANEEL, and is responsible for the coordination of generation and transmission installations, and the Power Commercialization Chamber is the successor to MAE as operator of the commercial market. Other regulatory public bodies include the National Council for Energy Policies, which acts as an advisory body to the MME regarding supply criteria and structural projects and the Electricity Industry Monitoring Committee, which monitors supply continuity and security.

Transmission: the immediate focus for investment and development

Given that the emphasis of reform in the electricity sector has concerned issues in generation and distribution, it is now Brazil's transmission system which is of growing importance in the context of long-term objectives to improve security of supply and extend competition in the wholesale markets.

The shortcomings in the network were observed by analysts during the energy crisis in 2001-2, some of whom believe that, owing to regional climatic differences, rationing could have been reduced, if not averted altogether, had there been an adequate transmission system between the north (where there was excess power during the crisis) and the south (which suffered a severe deficit).

Since the crisis, there have been further reminders of the fragility in Brazil's transmission infrastructure. In the third quarter of each of the last three years, the average length of power interruptions has stubbornly remained more or less the same, with in fact a slight increase between 2007 and 2009. In November 2009, widespread power outages demonstrated the inadequacy of the existing network, with a total of 18 Brazilian states suffering a blackout on 10 November, and some parts of Rio de Janeiro being kept in the dark for more than 24 hours on 23 November. Despite enduring significant price increases year-on-year, for the 3.5 million consumers of Brazil's distribution company Light, the average length of interruption to power in the 3rd quarter of 2009 was 9 hours (5.75 times), as compared with 11.5 hours (7.05 times) in 2008 and 8.4 hours (6.25 times) in 2007.

Electrobras owns over two thirds of the transmission lines in Brazil. However, there is now scope for its market dominance to be reduced. Whilst transmission assets initially remained under state ownership and control following the RE-SEB reforms, an auction system has now been implemented for the expansion of transmission lines, as well as generation capacity. In an effort to maintain downward pressure on prices, transmission prices are set by the regulator, ANEEL. With roughly 40 government-granted transmission concessions available, the auction process in respect of new transmission capacity does provide competition and incentives for investors – including new entrants into the market – to participate in the expansion of the transmission network.

Looking to the future: what challenges lie ahead?

The Brazilian electricity market will inevitably face ongoing challenges as it continues its journey of reform. Opinion as to where its priorities now lie, and what challenges it faces immediately and further down the line is broadly in agreement in respect of the following:

  • Security of supply continues to dominate long-term planning and policy. With the energy crisis of 2001-2 in the recent past, there is still concern as to whether Brazil's power sector is sufficiently diverse in generation, robust in transmission and distribution and rapid in expansion to cope with growing demand.
  • Electricity needs to remain competitively and affordably priced in the future, which will require government supervision as the markets continue to develop. It remains to be seen what the long-term consequences will be when current contracts for old energy expire, and whether consumers will bear the cost of higher tariffs as a result of contracts linked to new energy. Similarly, if the free market and regulated market do begin to overlap and/or merge over time, there could be cost consequences for consumers, particularly if their suppliers become more exposed to price volatility.
  • Fuel diversity is an ongoing issue which must be addressed to reduce the risk of climate-related power crises recurring in future. Brazil remains reliant on hydroelectric power for approximately 75 per cent of its electricity generation, which leaves the sector exposed to climatic fluctuations, such as the cyclical El Niño phenomenon, that is believed to have caused the reduction in average rainfall and consequent depletion in water reserves in the late 1990s. At present, Brazil continues to enlarge its hydroelectric generation capacity. The proposed 11GW Belo Monte hydroelectric plant has received governmental approval, and is expected to be the third largest hydroelectric plant in the world once constructed.
  • Decarbonisation will be a challenge, given Brazil's predominantly hydroelectric power generation. In addressing issues associated with security of supply and diversity of generation, Brazil may have to increase its carbon output, particularly if it opts to use thermal power generation to help reduce its dependence on hydroelectric power. However, Brazil remains committed to renewable energy projects. In December 2009, the Brazilian government held its first technology specific energy auction, focusing on wind power, and at the end of January 2010, GE announced contracts to supply wind turbines for wind farms to be developed in Brazil that will add more than 400 megawatts of power to the country's clean energy capacity. It remains to be seen whether these projects will have a meaningful impact in meeting increasing demand.
  • Brazil's electricity market will need to keep attracting private investment to continue growing and developing. In the context of the current global economic climate, this will be a challenge, and the sector will need to continue demonstrating the success of recent and ongoing reforms, and the opportunities which the market now offers. A key part of this will involve the sector being able to demonstrate sustained, measured and secure development to enhance the progress which has been made so far, and avoid any commercial disincentives, such as the revenue losses experienced by distributors during the rationing programme imposed in 2001-2. The commendable regulatory transparency and increasing stability of the sector will need to be sustained.

There are further recommendations which analysts propose:

  • Current methodologies for calculating spot prices need to be improved and made more transparent;
  • Transmission tariffs need to be reviewed, as they may provide distorted locational signals where they inadequately reflect the distance between generation and demand;
  • The environmental licensing process could be improved and streamlined, as it currently presents bureaucratic obstacles to the expansion of generation capacity; and
  • The government must continue to promote energy efficiency, and implement measures where necessary, to further mitigate the risk of supply and demand vulnerability whilst generation capacity continues to fall behind demand.


Brazil has made remarkable progress since the first reforms passed under the RE-SEB project, but it is clear that the journey it embarked upon in the late 1990s is not yet over. Whilst Brazil should continue to learn from the experiences of more developed electricity markets, Brazil has much to teach from its own recent history. The country provides an excellent study for many countries, particularly those in transition, on what might be described as 'reform of the reforms'.

Clearly, the task of reforming the electricity sector is not yet complete. The ongoing journey from here must be one of sustained, long-term investment, particularly in the country's transmission network which does note simply face increasing demand. The transmission network is now an overhead marketplace, and has become a race track where players can change direction in a way that was not anticipated when it was built. ANEEL will need to be innovative in the way that it develops effective incentives to attract private investment and efficiency gain, in order to ensure development, expansion and improvement continue in the years ahead.

However, analysts' recommendations clearly suggest that the path ahead is one of evolution and not revolution. Outside of transmission, the model is in place and functioning successfully, and with steady hands on the tiller, a few adjustments will strengthen and consolidate what is already an increasingly competitive and commercially attractive market. As the maturity and experience of the Ministry and other agencies increases, the sector is becoming richer in dynamic investment opportunities.

Brazil has long been recognised as a country of vast potential: now, its electricity market is delivering results, and offers investors an interesting new place to do business.

This article was written for Law-Now, CMS Cameron McKenna's free online information service. To register for Law-Now, please go to

Law-Now information is for general purposes and guidance only. The information and opinions expressed in all Law-Now articles are not necessarily comprehensive and do not purport to give professional or legal advice. All Law-Now information relates to circumstances prevailing at the date of its original publication and may not have been updated to reflect subsequent developments.

The original publication date for this article was 09/02/2010.

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