Electricity Trading: Europe takes a step closer to full market integration

The recent announcement that France, Germany and Benelux are set to join their electricity markets is another important step towards a fully integrated electricity market in Europe.

By Paul Breeze

It was announced on 6 June this year that a coupled electricity market would be created between France, Belgium, the Netherlands, Luxembourg and Germany by 1 January 2009. The agreement, based on a Memorandum of Understanding between governments, regulators, power exchanges, transmission system operators and electricity associations of the countries involved, has been heralded as a step towards a fully integrated European electricity market.

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This may prove to be the case, but the move may be politically motivated too. Both the German and the French governments are fighting to prevent the forced break-up of vertically integrated national electricity companies such as EDF, E.ON and RWE. By expanding the geographical markets in which these companies operate though market coupling, the governments can argue that the companies are now facing competition of the sort required by the European Union (EU) Commission and that further restructuring is not necessary.

The market coupling mechanism is, anyway, a restricted form of market integration since it is limited by the capacity of the interconnections between the various countries involved. It is, nevertheless, a real integration. This has been demonstrated by the trilateral coupling of the French, Belgium and Dutch electricity markets, which was launched in late November 2006. In fact the June announcement represents an expansion of this trilateral market so that it now encompasses the whole of the Central West region, one of seven European regional markets defined by the European Regulators Group for Gas and Electricity (ERGEG)a.

Electricity market roadmap

The trilateral market coupling, and the now promised pentalateral market coupling, can be seen as the first fruits of a process begun in 2005 by ERGEG to create a roadmap leading, via regional markets, towards a single competitive EU market. It also represents a success for European transmission system operators (TSOs) and EuroPEX, the Association of European Power Exchanges, which have been promoting day ahead market coupling as the means to solve the problem of congestion between different national and regional markets within the EU.

The idea of a trilateral coupling project involving France, Belgium and the Netherlands was first mooted by the TSOs and Europex in 2004. Then, in 2005, the Belgium Power Exchange, Belpex SA was created in order to co-ordinate operations of the proposed international market. The rules for market coupling were then developed by the TSOs and the power exchanges, and these were finally approved by the national regulators in October 2006, allowing the project to proceed the next month.

Day ahead system

The trilateral coupling operates through two system interconnections, one between France and Belgium and one between Belgium and the Netherlands. Under the market conditions that existed before November 2006, the capacity on these interconnections was divided into yearly, monthly and daily capacities, and these portions were auctioned once a year, once a month or once a day. From 21 November 2006, the auctioning of daily capacity was replaced by a system of implicit allocation of the daily capacity based on market demands at the three national power exchanges, APX in the Netherlands, Belpex in Belgium and Powernext in France. Monthly and yearly capacity auctions remained unaffected.

On the day ahead system, electricity traders on the three exchanges register each day their purchase or sell orders for each hour of the following day. A market player registered at any one of the exchanges now automatically becomes a player on all three. At market closure, all the buy and sell orders are aggregated over the three power exchanges in order to determine the hourly market price and volume for that hour of the following day. Purchases may be met nationally but, critically, they can now be met internationally provided there is capacity on the relevant interconnect to transmit the power. However if the cross-border demand exceeds capacity then the system becomes congested. Under these conditions, prices may not then be the same throughout the three-nation region.

The first report on the results of the trilateral market was released on 14 February this yearb. They showed that between 22 November 2006 and 31 January 2007, the day ahead prices on the three power exchanges were identical for 65 per cent of the time. Over the same period, prices in France and Belgium were identical for 82 per cent of the time and between Belgium and the Netherlands they were identical for 81 per cent of the time.

The total volume of trade on the Belpex power exchange in January 2007 was 608 424 MWh, or 19 600 MWh each day. No figures are available, however, for international trade based on daily auctions of capacity on the interconnectors before the trilateral system was established.

The operators claim these results show that day-ahead market coupling not only extends market operability, but it significantly improves efficiency. Previously the same company might purchase daily capacity on an interconnection in both directions during the daily auctions in order to ensure that it had capacity available, but such waste of capacity is eliminated by the day-ahead market coupling system.

The operators of the trilateral system see this as a first step towards even closer integration between the markets in the three countries. This could be enhanced by intra-day trading and balancing arrangements, as well as Financial Transmission Rights to improve the way transmission capacity is controlled. They also expect the system to be extended geographically to encompass further countries and regions.

Further market expansion

The announcement on 6 June was the first step in this latter process. The extension of the trilateral coupling region to embrace Germany and Luxembourg appears always to have been implicit in the original trilateral coupling, but its announcement confirms both the utility of the day-ahead market coupling already demonstrated and an element of political expediency given that European markets became theoretically fully open on 1 July 2007.

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The details of this expansion remain to be worked out. But in the meantime further geographical expansion is likely to take place in the near future. A cable linking the Netherlands and Norway (NorNed) is due for completion at the end of this year. With this it will be possible for the Nord Pool, encompassing Norway, Sweden, Finland and Denmark to couple with the trilateral system. A second cable, linking Germany and Denmark, is also due for completion this year. This would allow the trilateral system to be coupled to Germany through Scandinavia with a day-ahead market operating across all the linked countries. Meanwhile the Netherlands transmission company Tennet and the UK’s national grid have announced the construction of the BritNed cable linking the UK to the Netherlands by 2010, allowing possible expansion to the UK and Ireland too.

These projects will run alongside the ERGEG regional initiative already mentioned. This has identified seven regional electricity markets, which are listed in Table 1. Each of these regions has now been established, in principle, and regional coordination committees set up. As far as achievements, however, the Central West region is far in advance of any other.

How is this likely to affect electricity trading within the EU? In the long term, day-ahead market coupling appears to offer an effective mechanism for competitively linking national electricity markets without significantly disrupting the way in which those national markets currently operate. However if trading is to become completely effective then interconnector capacities will have to be increased in order to prevent congestion occurring, as has already been seen on the trilateral system for 35 per cent of the time during its initial period of operation.

Recognition of this is supposedly written into the Memorandum of Understanding signed on 6 June under which the signatories of the five countries involved intend to develop a regional capacity plan showing bottlenecks so that future investment projects can be targeted to improve performance. According to the European Information Service (EIS), a common regional capacity plan is due no later than March 2009. However the EIS also notes that for the signatories to the memorandum – and in practice this almost certainly means primarily France and Germany – this flow-based market coupling is seen as the sole acceptable permanent solution to market integration.

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Over the shorter term, the anticipated coupling of the electricity markets in France and Germany offer the governments of those two countries a political weapon to use in their fight within the EU to maintain the integrity of their national electricity utilities. Battle lines are already drawn. Eight countries including the UK, Spain, the Netherlands, Belgium, Denmark, Sweden, Finland and Romania appealed to Andris Piebalgs, the EU energy commissioner, at the end of June supporting the break up of large utilities such as EDF. However a majority of the EU’s members still oppose ownership unbundling and its seems likely that some alternative compromise will have to be reached. The achievement of the new French president, Nicolas Sarkozy, in having the championship of competition removed from the new EU treaty agreed in June is likely to bolster the arguments of France and Germany.

Germany may also provide an effective test of the efficacy of day-ahead coupling in affecting electricity market prices. Spot prices for electricity on the German market have risen from an average EEX base load spot market price of €19/MWh in 2000 to a price of €50/MWh in 2006c. This has been attributed in part to market power of the big generators within the German electricity market. Hourly spot market prices in Germany are often different to those in France and Austria even though there is little congestion, whereas monthly and annual prices show only small variations, reflecting successful countertradingc. Thus the proposed day-ahead coupling linking Germany to the already existing trilateral system will provide the opportunity to demonstrate that this approach can bring about effective competition and lead to a reduction in daily spot prices.

aERGEG Regional Initiatives. Annual Report: Progress and Prospects, March 2007.

bTrilateral coupling of the Belgian, Dutch and French electricity markets: technical press briefing, Brussels – 14th February 2007

cMarket Power in the German Wholesale Electricity Market: What are the Political Options? H-G Schwarz, C Lang & S Meier, Institute of Economics, University of Erlangen-Nuremberg. Germany.

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