Knock, knocking on Europe’s door

There are ten countries that will be looking to join the European Union by May 2004. What will this mean in terms of liberalizing their electricity markets? Will they meet their objectives? PEI takes a closer look.

Gero Di Piazza

The European Union (EU) was set up in 1957 with the Treaty of Rome and many objectives were carried out to unify the members. Many of those objectives have been met and the long standing members have grown with the benefits that come with it, like cheaper trading rates in export and import etc.

The electricity markets within the EU have been opened up for competition since February 19, 1999. The EU implements laws in two ways ” Regulations and Directives. Regulations are effective immediately, whereas Directives require the transposition into national law and could take one to two years. For example, the liberalization of the EU’s energy market was discussed politically in 1996. A report was published in February 1997 and by February 1999 it was effective.

Sections of the European electricity sector are currently enjoying this benefit as some members have fully liberalized their market whilst others are in transition. The current 15 members are: Austria, Belgium, Denmark, Finland, France, Germany, Greece, Ireland, Italy, Luxembourg, Portugal, Spain, Sweden, The Netherlands and UK. There is likely to be ten additional members in 2004.

By unifying its members through the EU, Europe is attempting to act as one body. Over the years, however, smaller countries that have split to seek independence have added to the list that want to be part of the EU. Simply, the European map has changed, becoming smaller and larger at the same time. The former Czechoslovakia is one example. It split into the Czech Republic and Slovakia.


The ten countries looking for EU accession by 2004 plus the three that will join in the following years
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Ludmila Majlathova, adviser for Eurelectric, Union of the electricity industry said: “Ten acceding countries about to join the EU on 1 May 2004 havesuccessfully closed the Energy Chapter, which means that they have introduced relevant legislations in line with requirements of the EU electricity directive from 1996and have created required institutions for operating electricity market. Most of them have already complied with the required 33 per cent of market opening and by the date of accession everything should bein line. Concerning market opening some countries went even further (e.g. currently 60 per cent in Slovenia).”

Candidate countries

The candidate countries are mostly eastern European and include Cyprus, Czech Republic, Estonia, Hungary, Latvia, Lithuania, Malta, Poland, Slovakia, Slovenia. These countries completed their accession negotiations in 2002 and are expected to sign the Accession Treaty in 2003. This is according to regulations set by the European Council in Copenhagen, Denmark that met in 2002. One of the criteria is the functioning market economies that have the capacity to withstand competitive pressure and market forces within the Union.

The three countries that are not expected to meet the timeframe are Bulgaria, Romania and Turkey. The first two do not meet the economic criteria, whereas Turkey does not fully meet the political or economic criteria. The Commission supports Bulgaria and Romania in achieving their objective of becoming members of the Union in 2007. This year the Accession Partnerships for Bulgaria and Romania will be revised. Turkey has more work to do in terms of strengthening their business relationship with other EU members. The main principles behind the accession negotiations are four-fold:

  • The negotiations focus specifically on the terms under which candidates adopt, implement and enforce the Acquis Communautaire (see below).
  • Transitional arrangements may be possible, but these must be limited in scope and duration and should not have a significant impact on competition or the functioning of the internal market.
  • The concept of differentiation
  • The principle of catching up and the principle that each candidate is judged on its own merits.

Electricity

JohnTraynor, head of unit at Eurelectric, (energy advisor) in Brussels, Belgium said: “In the 1950’s the southern shore had half the population of the northern Med basin, but by 1990 it was equivalent and by 2020 it is estimated to be double. Therefore the electricity needs are growing but the investment needed is huge.” This is the realistic approach that Traynor underscores, not taking for granted the necessity of the whole liberalization process.

As part of the candiadates’ efforts to become members of the EU, the countries will have to adopt and transpose the EU laws and policies into national laws. This process is called the ‘Acquis Communautaire’, and it contains 31 chapters (which all members passed last year to be considered). The energy chapter of the acquis requires countries to implement laws and policies, but they also need to set up institutions such as a regulatory body ” prerequisite in the gas and electricity directives ” and a nuclear safety authority. Key measures to fulfil the requirements in the energy acquis include:

  • Deciding on an energy policy with a clear timetable for restructuring of the sector.
  • Prepare for the internal energy market (the Gas and Electricity directives; the directive on electricity produced from renewable energy sources).
  • Improve energy networks in order to create a real European market.
  • Prepare for crisis situations, particularly through the constitutions of 90 days of oil stocks.
  • Improve the safety of nuclear power pants in order to ensure that electricity is produced according to a high level of nuclear safety.
  • Ensure that nuclear waste is handled in a responsible manner; and prepare for the implementation of Euratom safeguards on nuclear materials.

Traynor said: “The whole process is huge. Some of them [candidate countries] didn’t even have the administration capacity ” the civil servants to deal with the draft legislation that is 80 000 pages long!” One of the countries that is looking for accession, but has been delayed, is Turkey.

Huge process

Traynor added: It is difficult for a country to say it’s starting implementing objectives, because once you start you have to finish and there are numerous objective tests that will look at this. It’s like Gordon Brown’s [the UK Chancellor] five economic tests to join the Euro. Once all five criteria have been met then that’s it, he can commit to join, that is why he is delaying, and the situation is similar with Turkey. In fairness to Turkey, they have shown a keen interest to join but there are other [political] issues that need to be sorted with Cyprus and the Kurds.

“Russia is a counter example to Turkey, their system is more linear and has huge potential to link power westwards.”

So what will it mean for new entrants in terms of their power demands sought by the EU? Well, each member state is likely to have its own model to achieve qualification. The EU has made it clear that each country will need an independent regulator and transmission operator and, of course, a timeframe to achieve this by. It is not just the new entrants that will need to comply with demands but existing members are currently undergoing transitions that will seek to be a benchmark for new and future members.

France continues with its stance to prolong the liberalization process for as long as it can. Germany and Italy, although having made greater efforts, still highlight the awkwardness that the EU faces. Germany, for example, has split the national electricity sector amongst local ex-monopolies, which control access to power grids. In other words, Germany has yet to implement an independent regulator.

Further, only two to three per cent of German households at the end of last year were served by new rivals. Whilst in Italy, laws make it difficult for independent power producers (IPPs) to build plants. The thing that frustrates IPPs most is that 130 regulatory approvals are required before the go ahead is given, which could take years and that is only if approvals are successful.

The challenges

Within the EU, a process of liberalization (and privatization) is under way in the energy sector. It is not happening at the same speed for all countries nor is the starting point the same, as new entrants put forward their cases. But despite this, existing members have the advantage of experience and set objectives that are in motion, which could lead to a two-tier liberalization process, with candidates happily playing “catch-up”. EU guidelines for energy networks in Europe have been agreed with Energy Ministers from member states. The guidelines promote the development of interconnection infrastructure to enhance competitiveness and reliability ” a must if more member states are to join. The Florence Forum, set up in 1998, meets on a regular basis in order to discuss issues regarding the creation of a true internal electricity market that are not addressed in the Electricity Directive.


Percentage market opening by member states
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At present, the most important issues addressed concern cross-border trade of electricity and notably the tarification of cross-border exchanges. A temporary mechanism for the compensation of transmission system operators of transited countries has been agreed at the last Florence forum in February 2002 and a permanent mechanism replaced it as of January 2003. Other important issues debated in this forum concern congestion management and harmonization of charges imposed on generators and loads in the transmission prices.

The challenge for the next generation of transmission system managers will be tomaintain standards and yet adapt the operating characteristics of Europe’s nationalelectricity grids to new rules for trading, new customer demands, and dealing with andallowing for new entrants to the business. A particular challenge relates to the operationof transmission networks across the national borders.

The key challenges facing the transmission business in Europe include:

  • Understanding the possible future rules of access and pricing.
  • Weighing the implications of the alternatives on power trading,congestion, and pricing.
  • Considering the possibility that a single European market with regionalcharacteristics might develop.
  • Evaluating the range of market activities and market players that willemerge.

The Central and East European (CEE) countries, as explained, are in the process of refurbishing/constructing both their gas and power markets/industries to be compatible with the strict regulations set buy the EU. The real work has seen unbundling generation, transmission and distribution, which is expected. Some countries have gone further by establishing separate transmission and distribution tariffs.

The Czech Republic and Poland, for example, have formed independent regulators, but these have so far counted for little since the independent regulatory agencies are politically weak. This is particularly true on price regulations where government usually lay down the pricing as seen in Poland, or retain the final decision as seen in Hungary.

Renewables

Foundations on what should be done regarding greenhouse emissions have been discussed. The outcome of this is the greenhouse gas emission trading scheme to start in 2005. The EU has set a particular framework of what needs to be done. But this may be a cause for concern for the candidate countries. Already Hungary, Latvia and Malta have objected to aspects of the scheme to which they and the rest of the member countries have not had a chance to shed their views or have difficulties meeting certain targets.

Hungary called for a meeting of an interim committee to express this view in March 2003, this was created specifically to give candidate countries the chance to voice any concerns. Latvia and Malta joined forces to ask for more clarification on how the implementation would work.

Hungary’s main issue is its objection that eastern states should by-pass the first-phase of the scheme, which runs until 2008 when the Kyoto Protocol compliance period begins. Hungary’s argument is that eastern European states would not benefit from the scheme since those countries have seen greenhouse gas emissions fall dramatically.

This could lead to a ‘spanner in the works’ scenario for the EU. Many CEE nations would have surplus emissions rights to sell into the EU scheme, bringing down the cost of the EU as a whole to meet its Kyoto Protocol commitment. The withdrawal of such countries from the EU scheme would mean more costly compliance for the current EU members.

The four objectives raised are:

1) Setting the policy profile of climate change, at home and in developing countries.

2) Help developing countries adapt to the adverse effects of climate change.

3) Support with cutting emissions of greenhouse gases.

4) Capacity development.

Will it work?

What the market will eventually look like in terms of producers, dealers, distributors and distribution networks will only gradually become evident in the course of time, and both the market and the regulators will still need to undergo many adaptations.

Liberalizing the energy market in Europe should lead to a greater degree of cross-border trade in gas and electricity, for which the creation of a ‘level playing field’ is an important condition. However, liberalizing the cross-border trade in energy alone is not enough to create this level playing field, but is only the first step. The national energy markets themselves will also need to be liberalised. The regulators therefore need to play a crucial part in supervising that process.

As for critics of the EU’s energy sector working in union, they seem to be few and far between. The majority of insiders are optimistic that it will work. The common thread between commentators is that it will take time and a lot of work needs to be carried out but the process should fall in place at the end. Majlathova adds: “The political enlargement was an important driving force for new countries to align with the EU rulebook and to undertake necessary reforms ” once a minimum level of harmonization is achieved,market of 25 members comparing to 15 can only profit from such extension.”

The Commission’s proposal for a Regulation on cross-border electricity transactions is aimed at overcoming the major obstacles impeding the development of cross-border trade of electricity. This objective is also the one pursued by the Florence Forum, which gathers national regulatory authorities, Member States, European Commission, Transmission System Operators, electricity traders, consumers, network users, and power exchanges.

Traynor commented: “It will happen eventually. If we can get through the transmission problems it should be ok. We have to be sure that if something like that goes wrong in one country that it will not affect the surrounding or connected countries. If we figure out how to solve these problems, I say we’ll be looking at an implemented system by 2020.”

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