Commission launches state aid sector inquiry into electricity capacity mechanisms

30 April 2015

Peter Willis, Efthymios Bourtzalas, Dr Matthias Lang, Pierrette Gaasbeek, Hermenegildo Altozano

Europe-wide inquiry reflects Commission's long-standing concerns about the potential distortion of the internal energy market.

On 29 April, the European Commission announced the launch of a sector inquiry into electricity capacity mechanisms applying in certain EU Member States. These mechanisms are measures intended to incentivise the development or retention of sufficient capacity to ensure that electricity supply always meets demand.  They can take various forms, with both targeted and market-wide arrangements in place or under consideration. The Commission's Energy Directorate-General expressed concerns about capacity mechanisms (and other forms of state intervention in electricity markets) in a November 2013 communication, commenting that "if public interventions are not carefully designed they can severely distort the functioning of the market and lead to higher energy prices both for households and businesses". It accompanied that communication with guidance on the design of capacity mechanisms, stressing the need for governments to analyse the causes of the lack of adequacy before intervening, to remove existing distortions that prevent markets from delivering the proper incentives, to ensure that renewable generators react to market signals, to promote demand-side flexibility and to ensure that any capacity mechanism is non-discriminatory both as to type and location of the adequacy resource. A further concern expressed by a number of market participants is that the diversity of different mechanisms obstructs cross-border trading.

In 2014, the Commission's new guidelines on State aid for environmental protection and energy entered into force.  They also set out specific criteria for assessing capacity mechanisms. These guidelines were issued by the Competition Directorate-General, but the approach that they adopt is consistent with the earlier guidance from the Energy Directorate-General. However, they have much greater force, because in the absence of State aid approval, a capacity mechanism is very likely to be unlawful. The energy State aid guidelines require Member States to demonstrate that their capacity measures are necessary, and that they do not unduly distort competition - not discriminating between technologies and not hindering cross-border electricity flows.

A number of Member States have now adopted, or are proposing, capacity mechanisms.  In its February 2015 communication on the EU Energy Union, the Commission again warned about the potentially adverse effects of these mechanisms on the internal energy market. It explained that

"Even though in some cases required and justified to address market failures, some forms of public intervention have had a serious negative impact on the effective functioning of the internal energy market. The Commission will work together with Member States to ensure that capacity mechanisms and support for renewable electricity are fully in line with existing rules and do not distort the internal energy market".

But rather than working with each individual Member State concerned, the Commission has now launched one of the heavier weapons in its competition armoury, a sector inquiry. It has carried out a number of competition sector inquiries, including the energy sector inquiry that ran between 2005 and 2007 and resulted in a large number of individual investigations and led to the Third Energy Package. However, this is its first inquiry into State aid across an industry sector. The intention is to give the Commission a better understanding of capacity mechanisms, and in particular whether there are particular design features that discriminate between providers or technologies, or restrict cross-border electricity flows. A sector inquiry will allow the Commission to collect a wider range of views, including those of network operators and demand response providers as well as governments and generators, than is usual in individual State aid cases.  These are conducted through a dialogue with the authorities of the Member State concerned and provide only very limited scope for third party comments. It explains that the inquiry will complement its legislative proposals on electricity market design under the Energy Union.  

Competition Commissioner Vestager commented:

"This sector inquiry sends a clear signal to Member States to respect EU State aid rules when implementing capacity mechanisms, and contributes to the Commission's goal to build a true Energy Union in Europe". 

The Commission will now send questionnaires to public authorities and market participants in Belgium, Croatia, Denmark, France, Germany, Ireland, Italy, Poland, Portugal, Spain and Sweden.  These have been selected as representatives of the different types of mechanism and their impact on competition and cross-border trade. One notable exception from this list is Great Britain (Northern Ireland has a separate capacity mechanism) where the Commission carried out an individual investigation and issued a clearance decision in July 2014. The Commission noted that the government had carried out a detailed review of the need for the measures before implementing them, that the mechanism was open to a range of technologies, and that the use of an auction ensured that aid was limited to the minimum. The government is now considering a number of refinements of the mechanism, and they will require assessment to ensure that the conditions for the state aid approval are still met.

Judging from the 2005-2007 energy sector inquiry, the questionnaires sent to market participants are likely to be detailed and complex, and the Commission is likely to request responses within a tight timescale, so potential recipients should be prepared. The inquiry, which is due to lead to preliminary findings by the end of this year and a final report in 2016, is likely to result in further detailed investigations into individual national mechanisms, and is also likely to be influential in the shaping of legislation in this area. It will therefore be important for interested parties not merely to respond to the questions, but also to make more proactive representations about the design and operation of capacity mechanisms so that their views are properly reflected.

Bird & Bird's energy team has considerable experience in this area. Members of the team guided energy companies through the last sector inquiry, have advised energy companies in a number of Member States on State aid issues and in State aid investigations and include the author of the GB chapter of the forthcoming Florence School of Regulation book on EU capacity mechanisms.  Additional information on the German capacity market discussion is available on the German Energy Blog, authored by partner Matthias Lang.

For further information please contact any of the below or any other member of Bird & Bird's Competition & EU group or Energy sector group with whom you usually deal.