An area of continued importance is that of how the various policy measures intended to counter climate change and to assist energy policy affect the electricity market. Examples of such policy measures include the EU Emissions Trading Scheme (ETS), support schemes for renewable electricity production, regulations and systems for trading renewable electricity, guarantees of origin and environmental labelling of electricity.
The introduction of the ETS, for example, has had a considerably greater effect on the price of electricity than had been expected by many. Another example is that of the consequences that would arise in the event of rapid introduction of wind power. A substantial expansion of wind power would create a considerable pressure for coordinated expansion of the grid, and also affect investments in standby power production plants.
Questions
2.1 What stabilising measures can be taken in order for an effective northern European electricity market to assimilate large quantities of intermittent production?
The purpose of this project is to investigate the need for stabilising actions on the northern European electricity market with the aim of assimilating large quantities of intermittent electricity production. If it is found that there is a need for further stabilising actions, the regulatory framework should favour development in that direction. Our contribution, from within Market Design, can be to explain how different types of regulatory framework influence development.
The first stage is to understand where development is heading, and what consequences can be expected with the present rules. A lot of information can be obtained from previous, current and planned investigations. When this is done we may be ready to formulate a number of concrete questions for further investigation.
2.2 How is the efficacy of climate policy measures affected by regulations governing the electricity market?
An important question is how the rules for the electricity market and climate policy measures can both best be built upon in order to retain the market incentives for emission reductions and improvement in the efficiency of energy use.
One particular discussion area has been that of how the costs of the EU Emissions Trading Scheme (ETS) affect the price of electricity. Up to now, electricity producers using fossil fuels have mostly received their emission rights cost-free from the state. Views have been
expressed that, as the producers receive them free, they should not affect the price of
electricity. However, what this is overlooking is that an important point of the ETS is that the rights are transferable. Those rights that a producer does not need can be sold to another producer who has a greater willingness to pay. If there is to be any point in this, the electricity producers who have received their rights cost-free must regard them as having potential value, and must run their power plants only when the price of electricity is sufficiently high to cover – or exceed, rather - both the cost of the fuel and the potential revenue that could be obtained by selling the rights on the market. Investigation as part of the work of the Market Design programme has shown that, in this respect, market pricing of electricity is working exactly as can be expected.
However, the fact that the market is working effectively in this respect does not necessarily mean that the substantial increases in the price of electricity that have resulted from ETS have been desirable from a political point of view. In particular, many have been unhappy about the shift in the balance between producers and consumers, and about possible profitability problems for electrically-intensive industries in Europe. The suggestion has even been raised that the price-determining mechanisms on the electricity market must be changed in order to prevent high CO2 prices from distorting the market as much as they do today. There are, for example, concrete proposals to change the way in which spot prices are set on Nord Pool in order to prevent CO2 prices from playing such a large part. On the other hand, there are those who claim that it would harm the effectiveness of climate policy to take steps to reduce the effects of CO2 price on electricity prices.
These questions are naturally too extensive for this programme alone to tackle them, but we can doubtless make a contribution to so doing.
2.3 How are competitiveness and investment affected in various parts of Europe by climate policy measures?
Climate policy measures affect consumers and producers in different ways, depending on how the regulatory framework governing the electricity markets is structured. The extent of deregulation, or different types of price control, can for example have considerable effect on the willingness of companies to invest in climate-neutral production. This, in combination with an increasingly open electricity market, can give rise to substantial losses in market efficiency for the EU as a whole, and affect our common costs for achieving climate targets. Even if the climate policy measures are effectively designed, they may have undesirable effects on investments unless the regulatory framework of the electricity market is harmonised in an appropriate manner. Identifying market weaknesses and discussing possible solutions can thus lead to both a more efficient electricity market and more effective climate policies.
2.4 How do different types of subsidies for renewable electricity affect the electricity market?
Policies employed by the various European countries, and the EU’s common policies, for increasing the proportion of renewable energy production in Europe mean that renewable
electricity production today is heavily subsidised. The commonest method of subsidy is that of feed-in tariffs, with other methods including green certificates and investment grants. In addition to national support and incentives, there is some opportunity for trading green electricity between countries.
The structure of these rules has both direct and indirect effect on the function of the electricity market. High payment per unit of energy1, for example, encourages the operators of these plants always to produce as much energy as possible, even if the market prices are very low or even negative. This can have serious effects on other types of market investments.
The form of policy measures for renewable electricity production also affects investors’ risks, whether investing in green electricity or in conventional electricity production.
2.5 How is the pricing structure of electricity and the need for publicly financed reserves in the Nordic countries affected by large quantities of intermittent electricity production?
The introduction of large quantities of renewable electricity production can have major effects on the pricing structure of electricity on the Nordic electricity market. Today, fossil-fuelled power production determines the cost of marginal production, but could be displaced by electricity production having low or even negative marginal costs.
Up until now, the electricity market in the Nordic countries has been able to operate as an “energy-only market”. Will this be possible with large quantities of intermittent power production? Will it be necessary to establish special capacity markets? Or will investment in wind power and new links to the continent actually improve market conditions for commercial peak load production?
2.6 Which regulatory frameworks should control network investments?
An important Market Design question is that relating to the regulations and principles controlling network investments. The greater volumes of international trade that have followed in the footsteps of the new regulations governing the electricity market have put the high-voltage grid operator companies under pressure to expand their infrastructures. The need for capacity increases will be accentuated over the next decades as a result of the EU’s renewable energy policy. However, deciding on sensible investments in grid capacity is no easy matter, whether in the higher realms of theoretical consideration or in practice.
The profitability of any network investment depends on regional imbalance between supply and demand for power, which can be expected to vary widely over the life of an investment.
There is also some degree of dependence between investments in power plants and
investments in networks. Although a given regional imbalance can be solved either by investing in a power line or by building new production capacity in the region, achieving an optimum result requires the two measures to be coordinated, which is often not possible. The Nordic grid operators have come a considerable way in the work of identifying common strategies for decision-making on, and financing of, central investments in networks, but this work needs to be pursued in greater depth. The next step is to coordinate their work in order to extend to continental Europe.
Another problem is that network investments affect the market pricing structure, and thus give rise to redistribution of asset holding values. The costs and benefits of an investment seldom affect the same individuals, or even individuals in the same country. It is therefore very much a matter of interest as to who will pay for investments in network infrastructure. Substantial expansion of wind power production, for example, will require major investments in the grid. Should these investments be charged to the owners of the wind power plants, or should the costs and risks be spread in some way over all parties on the electricity market?
A further question is that of who should be allowed to invest in networks. This question has been raised in many different contexts concerning what are known as “merchant links”, i.e. lines built and operated by others than the dominating network owners in the area.