The European Commission has just announced its public consultation on the awaited electricity market reform. The overreaching objective of the reform is to protect consumers against volatile and extreme electricity prices, and the reform therefore aims to create a buffer between such prices and the short-term markets.

In the consultation paper, the Commission has outlined several steps that can be taken in order to reach the overall objective. Each step may in its own way help bring down volatility in short-term prices; however, some of the steps outlined by the Commission may have unintended side effects.

The consultation period ends on 13 February 2023, and the Commission intends to present its proposal for amendments to the electricity market design in March 2023.

Below we have highlighted some of the steps envisioned by the Commission as part of the electricity market reform:

1. Furthering the use of power purchase agreements ("PPA")

The Commission views PPAs as a key part of reducing price volatility.

Under a PPA, electricity is generally sold on a long-term basis at an agreed price between the generator and the offtaker, which therefore entails that the price paid by the offtaker is not determined by the short-term market. A PPA therefore act as a hedge against electricity price volatility for both the generator and the offtaker.

Although the European PPA market has been growing, it has primarily been driven by large energy-intensive undertakings, and the overall market share remains limited.

In order to support the use of PPAs, the Commission is therefore i.a. considering:

  • Pooling demand in order to give access to small final customers (SMEs)
  • Providing insurance against risk(s) either market driven or through publicly supported guarantee schemes
  • Supporting standardisation of contracts
  • Requiring suppliers to procure a predefined share of their consumers' energy through PPAs.
  • Promoting PPAs through State-supported schemes

2. Contracts for difference

As a result of inframarginal generators (generators which have lower marginal costs such as renewables like wind and solar pv) having made larger revenues and profits due to the higher electricity prices, the Commission intends, in some form, to impose two-way contracts for differences ("CfDs") on them and to further integrate CfDs into the electricity market.

A CfD entails that a generator and an offtaker agree a so-called strike price for the sale of electricity. In case the market price for electricity exceeds the strike price, the generator will generally have to hand over this upside to the offtaker, and in case the market price is below the agreed strike price, then the offtaker will have to pay the difference to the generator.

CfDs will therefore generally protect the offtaker against electricity price spikes or levels above the agreed strike price, whereas the generator is protected against the market price dropping below the strike price.

The Commission is initially taking aim at renewable projects receiving public support, and is considering making them either mandatory for new projects, but also considering whether they can be imposed on already existing generating assets. The intention of the Commission is that the Member State (as party to a CfD) will be able to use the upside from the CfD in case the market price exceeds the strike price to channel the paybacks to consumers or taxpayers.

More specifically, the Commission is considering the following:

  • Introducing CfDs to complement existing support schemes, but allowing Member States to decide whether or not to use this to drive new investments in renewables.
  • Requiring that all new investments involving public support should rely on CfD structures.
  • Allowing Member States to offer contracts on certain types of existing inframarginal generators (e.g., for specific types of technologies). These contracts could be awarded to existing generation, where possible, on the basis of competitive bidding.
  • Allowing Member States to impose CfDs on certain types of existing inframarginal generators (e.g., for specific types of technologies) already receiving public support.

3. Limiting revenue of inframarginal generators

The Commission is further examining whether to keep in place a revenue cap for inframarginal generators. Currently, the Commission has imposed an EUR 180/MWh revenue cap as part of an emergency measure in October 2022 to curb high electricity prices.

Keeping in place a revenue cap, initially imposed as an emergency measure, would be in addition to relying on PPAs and CfDs and other measures proposed by the Commission.

4. Other measures

In addition to the above, the Commission is also considering some other key routes:

  • Further incentivising the development of flexibility assets and developing new products to foster demand reduction and shift energy at peak times.
  • Improving efficiency of intra-day markets
  • Improving liquidity in forward markets by establishing virtual trading hubs for forward contracts (as already exists in certain regions)
  • Accelerating deployment of renewables by way of transmission access guarantees for the relevant TSO.
  • Increasing possibilities for self consumption and electricity sharing between consumers.
  • Providing consumers with a better choice of electricity supply contracts and allowing them a choice between flexible or fixed-price contracts from their suppliers.
  • Enhancing the integrity and transparency of the energy market by revisiting and updating the REMIT framework.

Originally published by 24 January, 2023

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