Electricity capacity markets
According to Article 2(22) of the Regulation (EU) 2019/943 of the European Parliament and of the Council on the internal market for electricity (recast), capacity mechanism is a temporary measure to ensure the achievement of the necessary level of resource adequacy by remunerating resources for their availability not including measures relating to ancillary services and congestion management.
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Annex 2 to the 2020 Report (dated on 14 October 2020) from the Commission to the European Parliament, the Council, the European Economic and Social Committee and the Committee of the Regions on the State of the Energy Union pursuant to Regulation (EU) 2018/1999 on Governance of the Energy Union and Climate Action (COM(2020) 950 final - Energy subsidies in the EU) mentions capacity payment mechanisms received in the EU around EUR2.2 billion subsidies in 2018, and were stable at an average level around EUR2 billion over the last few years.
The difference between energy only markets on the one hand and capacity mechanisms on the other is ofen practically illustrated by the fact that profits under the former are derived from kWh sold while under the latter from kWh and kW.
Moreover, for typology purposes, the most-commonly used in this context terms: "electricity system adequacy" and "security of supply" should not be confused.
The document Capacity remuneration mechanisms, Workshop in preparation of Commission review of EU Guidelines on State Aid for Environmental Protection proposed the following discriminant between the said notions:
- adequacy means ability of the system to cover total demand at any time,
- security means ability of the system to cope with a sudden disturbance (balancing, stability).
a) differentiation between different kinds of capacity, and demand side participation;
b) how the eligibility to provide capacity is determined, especially in the case of load;
c) how far in the future obligations are contracted;
d) how the level of (adequate) capacity is determined;
e) how availability is documented or certified;
f) how, in the context of a capacity payments scheme, the payment is determined: whether prices are set administratively, according to auctions or in the market (or how the threshold/strike price is determined);
g) how the costs are allocated; and
State aid issues
According to Article 3(9) of European Commission Guidelines on State aid for environmental protection and energy 2014-2020 (Aid for generation adequacy - prolonged by 2021 https://ec.europa.eu/commission/presscorner/detail/en/ip_20_1247) to avoid distortions to the internal energy market the European Commission is conferred the right to approve capacity mechanisms in the EU Member States.
The capacity mechanism is a measure to ensure generation adequacy and security of electricity supply and therefore falls within the scope of Section 3.9 of the EEAG on State aid for generation adequacy.
To assess whether the capacity mechanism can be considered compatible with the internal market, the European Commission assesses whether the design of the measure meets the following criteria listed in paragraph (27) of the EEAG (with more specific details for measures ensuring generation adequacy in Sections 3.9.1 to 3.9.6 of the EEAG):
(a) contribution to a clearly defined objective of common interest,
(b) need for State intervention,
(c) appropriateness,
(d) incentive effect,
(e) proportionality,
(f) avoidance of undue negative effects on competition and trade,
(g) transparency of the aid.
The EEAG provisions need to be interpreted in the light of relevant further legislation, including the recast Regulation on the internal market for electricity and in particular the requirements regarding CO2 emission limits, which capacity mechanisms need to incorporate and apply, even if they were already in force and had been deemed as compliant with Union state aid rules.
According to Article 22(4) of Regulation (EU) 2019/943 (Recast Electricity Market Regulation), capacity mechanisms must apply the following requirements regarding CO2 emission limits:
a) generation capacity emitting more than 550 gr CO2 of fossil fuel origin per kWh of electricity that started commercial production after date of entry into force the recast Electricity Market Regulation (i.e. as from 4 July 2019) must not be committed or receive payments or commitments for future payments under a capacity mechanism as of entry into force at the latest;
b) generation capacity emitting more than 550 gr CO2 of fossil fuel origin per kWh of electricity and more than 350 kg CO2 of fossil fuel origin on average per year per installed kWe that started commercial production before the recast Electricity Market Regulation date of entry into force (i.e. before 4 July 2019) must not be committed or receive payments or commitments for future payments under a capacity mechanism as of 1 July 2025 at the latest;
c) the emission limit of 550 gr CO2 of fossil fuel origin per kWh of electricity and the limit of 350kg CO2 of fossil fuel origin on average per year per installed kW must be calculated based on the design efficiency of the generation unit meaning the net efficiency at nominal capacity under the relevant standard provided by the International Organisation for Standarisation (ISO).
The EU Member States applying capacity mechanisms on entry into force of the recast Electricity Market Regulation (4 July 2019) must adapt their mechanisms to comply with the Regulation without prejudice to commitments or contracts, concluded before 31 December 2019.
ACER was required to publish by 5 January 2020 an opinion providing technical guidance related to the calculation of the values referred to above.
On 24 September 2019 the ACER started the public consultation on CO2 emission limits for participating in capacity mechanisms and the relevant decision has been adopted on 17 December 2019 (ACER Opinion No 22/2019 on the calculation of the values of CO2 emission limits referred to in the first subparagraph of Article 22(4) of Regulation (EU) 2019/943 of 5 June 2019 on the internal market for electricity (recast)).
European Resource Adequacy Assessment (ERAA)
The Clean Energy Package (CEP) requires that capacity markets are introduced only where adequacy issues are expected to arise and that justifications are provided in case of discrepancies between the national and the pan-European adequacy studies.
The recast Electricity Regulation sets the framework for the assessing mid-term resource adequacy and provides general principles and design rules for capacity markets (framework for seasonal and short term adequacy assessments is defned in the Regulation 2019/941 of the European Parliament and of the Council of 5 June 2019 on risk-preparedness in the electricity sector and repealing Directive 2005/89/EC).
The recast Electricity Regulation in Article 21(4) forbids the EU Member States to introduce capacity mechanisms unless both the European Resource Adequacy Assessment (ERAA) and National Resource Adequacy Assessment (NRAA), or in the NRAA, the ERAA, identify a resource adequacy concern.
According to Article 21(4) of the recast Electricity Regulation, “Member States shall not introduce capacity mechanisms where both the European resource adequacy assessment and the national resource adequacy assessment, or in the absence of a national resource adequacy assessment, the European resource adequacy assessment have not identified a resource adequacy concern”.
Similarly, Article 21(6) states that “Where a Member State applies a capacity mechanism, it shall review that capacity mechanism and shall ensure that no new contracts are concluded under that mechanism where both the European resource adequacy assessment and the national resource adequacy assessment, or in the absence of a national resource adequacy assessment, the European resource adequacy assessment have not identified a resource adequacy concern […]”.
Hence, the application of a capacity mechanisms by the EU Member States is to be justified on the basis of the results of resource adequacy concerns identified in the ERAA and/or NRAA.
Capacity remuneration mechanisms in Europe
ACER/CEER Annual Report on the results of the monitoring the internal electricity markets in 2018 (of 11 November 2019, p. 9 - 11) notes that a “variety of uncoordinated capacity markets remained in operation throughout Europe”.
The said Report of of 11 November 2019 makes, moreover, the following observations as regards developments in European capacity markets:
- in 2018 Lithuania initiated the process of introducing a new market-based capacity markets with a view to replace strategic reserves and aiming for the legal acts introducing the new mechanism to be operational by the end of 2020;
- in 2018, the overall cost of capacity markets across the EU reached 2.5 billion euros, which constitutes a 7% decrease compared to 2017 (nevertheless, costs are expected to be higher in 2019 and beyond, based on the available forecasts and the fact that capacity markets will become operational in various EU Member States in 2019 and 2020);
- the substitution of administratively-set capacity payments with competitive schemes, e.g. following the provisions of the Guidelines on state aid for environmental protection and energy 2014–2020, led to significant overall cost reductions in 2018 in Ireland and Northern Ireland, however, capacity payments still account for a large share of total energy costs in this jurisdiction;
- costs also remain significant in other EU Member States, such as Lithuania, Greece, Great Britain, France, Spain and Bulgaria;
- the ACER was concerned about an increasing impact of capacity markets on consumers’ bills in the light of the ENTSO-E’s 2018 Mid-term Adequacy Forecast (MAF 2018), where “seven EU Member States that have introduced or are planning to introduce a capacity markets, i.e. Germany, Latvia, Lithuania, Poland, Portugal, Spain and Sweden, do not seem to face an adequacy problem in either 2020 or 2025”.
ACER/CEER Annual Report of 22 October 2018 on the Results of Monitoring the Internal Electricity and Natural Gas Markets in 2017 refers to the European Commission’s approval of six electricity capacity mechanisms to ensure security of supply in Belgium, France, Germany, Greece, Italy and Poland in February 2018, however, it is noted that the six approved capacity mechanisms adopted three different structures:
- for Belgium and Germany, the European Commission authorised strategic reserves (whereby certain generation capacities are kept outside the electricity market for operation only in emergencies),
- for Italy and Poland, the European Commission authorised market-wide capacity mechanisms (whereby companies are offered payments to generate electricity or reduce their electricity consumption),
- in the case of France and Greece, the European Commission authorised demand response schemes, whereby customers are incentivised to reduce their electricity consumption in hours where electricity is scarce.
In other markets (e.g. in Portugal or Spain), the capacity mechanisms were undergoing a revision.
Analogous ACER/CEER Report for year 2019 refers to Germany's the implementation of the first procurement process for strategic reserves in December 2019, to Italy, where the first two auctions for reliability options were carried out in November 2019 and to Greece (the suspension of the transitory flexibility auction approved in 2018, since March 2019, and the proposal for a new capacity mechanism, which was still under development).