Firmness of allocated cross-zonal capacity
The analysis of firmness of allocated cross-zonal capacity can be perceived as a starting point and an input for developing electricity trading modelling tools as well as a solid foundation of advanced business models in the European Union Internal Electricity Market.
The said problem is reflected in the entire spectrum of the network codes governing electricity trading in the European markets, in particular - depending on the respective market time-frame:
- Commission Regulation (EU) 2015/1222 of 24 July 2015 establishing a Guideline on Capacity Allocation and Congestion Management (Regulation on market coupling or 'CACM Regulation'), Articles 2(44), 69 - 72, Recital 23,
- Network Code on Forward Capacity Allocation (FCA Regulation), Articles 53-56, Recitals 11 and 12.
Article 2(44) of the CACM Regulation defines firmness as "a guarantee that cross-zonal capacity rights will remain unchanged and that a compensation is paid if they are nevertheless changed".
FCA Regulation in Article 2 refers to the above CACM definition.
The point in time delineating the respective compensation regimes is the day-ahead firmness deadline (DAFD):
- long-term transmission rights (LTTRs) curtailed before the DAFD are reimbursed or compensated by the Transmission System Operators (TSOs) to the LTTRs’ holders in accordance with the FCA Regulation,
- CACM Regulation establishes the DAFD and a related compensation regime for LTTRs curtailed after such deadline.
What is the scale of the issue? Is this something that deserves to be worrying about? The ENTSO-E indicated (Supporting Document for the Network Code on Electricity Balancing of 23 December 2013) that capacities between bidding zones are variable, but are generally of the order of a few GW.
Financial risk exposure of market spread compensation
Pursuant to ENTSO-E data the price spread between neighbouring bidding zones can be significant and can persist for significant periods of time.
Theoretical maximum price spread example:
NWE Region harmonized at +3000/-500 €/MWh (amounting to a theoretical maximum price spread at the level of €3500).
Large price spread in practice:
The price spread between France and Britain on 8th February 2012 due to a spike in the French day ahead prices (the French price reached 1938.5 €/MWh).
Hence, under market spread compensation, for a 3000MW curtailment and with a €3000 price spread, TSOs would be obliged to pay out €9million per hour.
It shows that the costs of market spread compensation can be considerable and have the ability to reach magnitudes of the order of €millions per hour, if the curtailment lasted a few hours/days/weeks/months.
This, however, also evidences the scale of the potential market participants' risk on occasion where the compensation is capped.
Firmness of allocated cross-zonal capacity curtailed prior to the day-ahead firmness deadline
FCA Regulation establishes the following main points of the legal framework for the firmness of allocated cross-zonal capacity curtailed prior to the day-ahead firmness deadline:
1. TSOs, in principle, are entitled to curtail long-term transmission rights, the reason for such a curtailment is to ensure operation remains within operational security limits,
2. long-term transmission rights may be curtailed prior to the DAFD, however, the concerned TSOs on the bidding zone border where long-term transmission rights have been curtailed must compensate the holders of curtailed long-term transmission rights,
3. compensation for the curtailed long-term transmission rights is equal to the market spread (with the reservation of curtailment due to force majeure where the compensation is equal to the amount initially paid for the concerned long-term transmission right during the forward allocation process),
4. a cap may be proposed by the the concerned TSOs on a bidding zone border with respect to the total compensation to be paid to all holders of curtailed long-term transmission rights in the relevant calendar year (or the relevant calendar month in case of direct current interconnectors),
5. the cap must not be lower than the total amount of congestion income collected by the concerned TSOs on the bidding zone border in the relevant calendar year (in case of direct current interconnectors, the cap must not be lower than the total congestion income collected by the concerned TSOs on the bidding zone border in the relevant calendar month).
Costs incurred from compensation mechanisms associated with ensuring firmness of cross-zonal capacities - irrespective of the market timeframe - are eligible costs in transmission tariffs provided that they are considered by regulatory authorities as reasonable, efficient and proportionate when fixing or approving such tariffs.
Firmness of allocated cross-zonal capacity curtailed after the day-ahead firmness deadline
If the allocated cross-zonal capacity is curtailed by the TSO after the day-ahead firmness deadline, the account of the two perspectives should be taken, depending on the market timeframe:
- firmness of intraday capacity,
- firmness of day-ahead capacity.
Provision of input data
1. Each coordinated capacity calculator shall ensure that cross-zonal capacity and allocation constraints shall be provided to relevant NEMOs in time to ensure the publication of cross-zonal capacity and of allocation constraints to the market no later than 11.00 market time day-ahead.
2. If a coordinated capacity calculator is unable to provide for cross-zonal capacity and allocation constraints one hour prior to the day-ahead market gate closure time, that coordinated capacity calculator shall notify the relevant NEMOs. These NEMOs shall immediately publish a notice for market participants.
In such cases, cross-zonal capacity and allocation constraints shall be provided by the coordinated capacity calculator no later than 30 minutes before the day-ahead market gate closure time.
As regards the former timeframe the rules are simple and clear - the intraday capacity is firm as soon as it is allocated.
With respect to the firmness of day-ahead capacity the CACM Regulation stipulates that:
- prior to the day-ahead firmness deadline, each coordinated capacity calculator may adjust cross-zonal capacity and allocation constraints provided to relevant Nominated Electricity Market Operators (NEMOs),
- after the day-ahead firmness deadline, all cross-zonal capacity and allocation constraints are firm for day-ahead capacity allocation "unless the requirements of Article 46(2) are met, in which case cross-zonal capacity and allocation constraints shall be firm as soon as they are submitted to relevant NEMOs".
Pursuant to the said Article 46(2) if a coordinated capacity calculator is unable to provide for cross-zonal capacity and allocation constraints one hour prior to the day-ahead market gate closure time, that coordinated capacity calculator is required to notify the relevant NEMOs and these NEMOs must immediately publish a notice for market participants (see the full content of the Article 46 of the CACM in the box).
Compensation rules in the event of force majeure or emergency with respect to day-ahead market timeframe are more complicated than the FCA Regulation's set-up.
If allocated capacity is curtailed because of force majeure or an emergency situation invoked by a TSO, the TSO is required to reimburse or provide compensation for the period of force majeure or the emergency situation, in accordance with the following requirements:
(a) if there is implicit allocation, central counter parties or shipping agents shall not be subject to financial damage or financial benefit arising from any imbalance created by such curtailment;
(b) in the event of force majeure, if capacity is allocated via explicit allocation, market participants shall be entitled to reimbursement of the price paid for the capacity during the explicit allocation process;
(c) in an emergency situation, if capacity is allocated via explicit allocation, market participants shall be entitled to compensation equal to the price difference of relevant markets between the bidding zones concerned in the relevant time-frame; or
(d) in an emergency situation, if capacity is allocated via explicit allocation but the bidding zone price is not calculated in at least one of the two relevant bidding zones in the relevant time-frame, market participants shall be entitled to reimbursement of the price paid for capacity during the explicit allocation process.
Evolution of the legal framework
The problem of the firmness regimes on bidding zone borders across Europe was the subject of the discrepancy between the ACER (the EU Agency gathering the European energy market regulators) and ENTSO-E (representing the TSOs’ views):
1. ACER's preference was for TSOs to reimburse the day-ahead market spread, instead of the price paid at auction;
2. ENTSO-E argued that the day ahead market spread is unknown at the time of the cross-zonal capacity allocation and can be many times greater than the initial price paid at auction.
ENTSO-E argued, moreover, that the divergent position between ENTSO-E and ACER was due to a fundamental different perspective on the type of product TSOs offer to market parties: the ACER‘s conception that TSOs offer a financial hedge between bidding zones, and TSOs’ approach viewing capacity product reflecting the capability of the transmission network to transfer energy with the associated risks.
Consequently, according to the TSOs’ stance, to the extent that the market spread exceeds the initial price paid at auction, the TSO has to cover the costs from elsewhere, be it congestion income from the current or other timeframes (congestion income being the TSO revenue derived from selling cross zonal capacity products) or from network tariffs (see: Supporting Document for the Network Code on Electricity Balancing of 23 December 2013).
TSOs believed that the risks should be shared between those using the interconnections and TSOs, whereas ACER believed that all the risk should be borne by TSOs.
Different types of market spread compensation are referred to (quotations from the above ENTSO-E‘s Supporting Document) in the boxes below.
It is noteworthy, Option A (firmness based on initial price paid) was the most common compensation arrangement across Europe.
Firmness based on initial price paid
Initial price paid compensation gives transmission right holders compensation usually between 100% and 110% of the original price paid at auction, although this is border dependent.
This was part of ENTSO-E's original position, however, responding to the stakeholders’ and the ACER‘s feedback, the ENTSO-E dropped the initial approach and provided a compromise solution.
Capped compensation variants set out by ENTSO-E are categorised into two families denoted as Option B1 and Option B2.
Firmness based on capped market spread compensation (congestion income cap)
Capped market spread compensation means that curtailed transmission rights holders are compensated on the market spread between bidding zones as long as there has been sufficient congestion income received by TSOs to pay out from.
Compensation is capped by a predefined time period of congestion revenue (e.g. monthly or annual).
Under this regime, market participants share the risks with TSOs. Under normal curtailment conditions, market parties receive market spread compensation.
However when an extreme event occurs, the cap for the compensation may be reached so that market parties share some of the financial burden.
Compared with initial price paid compensation (option A) moving to capped market spread is a significant increase in firmness costs compensation for many borders and TSOs.
Firmness based on capped market spread compensation (price cap)
Price capped market spread compensation means that curtailed transmission rights holders are compensated on the market spread differential as long as it is less than a predefined cap.
This ensures that under normal system conditions, market spread compensation is paid. However when an extreme event occurs, the price cap may be reached.
Under these circumstances, market parties would share some of the financial burden (similar as for option B1). TSOs envisage that price cap compensation could be implemented together with a congestion revenue cap, rather than being mutually exclusive.
The reason for combining a price cap with a congestion cap is to avoid situations where extreme price differentials and multiple curtailments exhaust all congestion income leaving some parties uncompensated. This ensures that as many market parties as possible are compensated.
Firmness based on full market spread compensation
Market spread compensation means that curtailed transmission rights holders are compensated at the market spread between bidding zones. Under this regime, market participants do not share any of the risks and TSOs are exposed to the full risk and associated financial consequences which may impact network tariffs.
The final TSOs' proposition was a mixture of Options B1 and B2.
It centered on the long term firmness deadline, which was the nomination deadline for physical transmission rights or between 19 and 2 hours before day-ahead market gate closure for financial transmission rights.
For curtailments between the auction and the long term firmness deadline, compensation, according to the ENTSO-E proposition, capped at the long term transmission rights' congestion income.
For curtailments between the long term firmness deadline and the day-ahead firmness deadline, compensation was proposed to be capped at the total monthly congestion income.
Where the compensation cap is hit, priority in compensation payments would be given to curtailments occurring between the long term firmness deadline and the day-ahead firmness deadline.
This, according to the TSOs analysis, should increase the level of firmness market participants see the closer they get to real time and reflect the shorter time they have to react.
ENTSO-E argued that under normal and severe system conditions ENTSO-E's proposal would give market parties a financial hedge for most curtailments and only in very exceptional circumstances would this be capped to avoid an excessive impact on end users via network tariffs.
In all other cases, the risk would not be shared with market parties and would be born entirely by TSOs.
This proposal, in the ENTSO-E view, was balanced in terms of risk sharing and introduced the incentives for market participants to support system security, hence it had been finally submitted to ACER.
The problem was appreciated by the industry and, consequently, more approaches were developed.
EURELECTRIC in the document "Main issues with ENTSO-E Draft Allocation Rules for Forward Capacity Allocation (version of 03/12/2014) expressed the view that long-term transmission rights "should be financially firm ahead of nomination deadline and physically firm afterwards as is currently the case on many borders. Therefore there should be no provisions for financial firmness after day-ahead firmness deadline".
The problem has been finally resolved in the aforementioned provisions of the FCA and CACM.
Winter Energy Package of November 2016
When it comes to the so-called Winter Energy Package of November 2016, Proposal for a Regulation of the European Parliament and of the Council on the internal market for electricity (recast) (30.11.2016, COM(2016) 861 final 2016/0379 (COD)) refers to the firmness of the allocated capacity in Article 14(2) and 14(10).
The former stipulates that transaction curtailment procedures may only be used "in emergency situations where the transmission system operator must act in an expeditious manner and re-dispatching or countertrading is not possible."
Any such procedure must be applied in a non-discriminatory manner.
The draft Regulation contains, moreover, the clear provision that "[e]xcept in cases of force majeure, market participants who have been allocated capacity shall be compensated for any curtailment."
Article 14(10) of the said Proposal gives further clues how the compensation at issue should be calculated.
According to this provision, if a transmission system operator does not fulfil its obligation, it shall be liable to compensate the market participant for the loss of capacity rights.
Consequential losses shall not be taken into account for that purpose.
The key concepts and methods for the determination of liabilities that accrue upon failure to honour obligations shall be set out in advance in respect of the financial consequences, and shall be subject to review by the relevant national regulatory authority or authorities.