Home Brussels Why reining in electricity prices is a lot tougher than it looks

Why reining in electricity prices is a lot tougher than it looks

by editor

Nothing grabs politicians’ attention faster than angry voters, and they’ve had plenty to be furious about as natural gas and electricity bills have soared to stomach-churning levels in recent months.

That’s led to a scramble to figure out ways to get those costs down — but that’s turning out to be very difficult, so the likeliest result is that EU leaders meeting later this week won’t come up with any solutions.

“There is no single easy answer to tackle the high electricity prices given the diversity of situations among Member States. Some options are only suitable for specific national contexts,” the European Commission said on Wednesday. “They all carry costs and drawbacks.” 

The initial problem was a surge in gas demand in Asia last year coupled with lower-than-normal Russian gas deliveries that left European gas storage at unusually low levels. Now the war in Ukraine is making matters even worse, as pressure grows for the bloc to rapidly cut its imports of Russian oil, coal and natural gas — although some national leaders reject the economic costs that would entail.

“We will end this dependence as quickly as we can, but to do that from one day to the next would mean plunging our country and all of Europe into a recession,” German Chancellor Olaf Scholz warned on Wednesday.

The problem for the bloc is that its liberalized electricity market is tightly tied to the price of natural gas; power prices are set by the final input needed to balance demand — called pay-as-clear — which in most cases is set by natural gas. That’s led to countries with large amounts of cheaper renewable or nuclear energy seeing sharp spikes in power prices thanks to the cost of that final bit of gas-fired electricity.

A Spanish-led coalition that includes Portugal, Belgium and Italy wants deep reforms to the EU price model.

Others, such as the Netherlands and Germany, strongly oppose such an approach and want to focus on cushioning the effects of the high prices on consumers and businesses, while letting the market operate. 

A third group, largely in Central Europe, wants to use the price spike to revamp or scrap the bloc’s Emissions Trading System and to rethink its Fit for 55 climate legislation.

The European Commission has been holding the middle ground — arguing that the current market model makes sense, but encouraging countries to boost the amount of renewable electricity, to cut energy use and increase efficiency.

In draft conclusions of this week’s European Council summit, seen by POLITICO, EU leaders call for things like a common approach to buying gas, aimed at preventing countries from competing against each other. But there’s no big movement on electricity prices.

“It does not seem realistic to expect a result on the energy discussion at this European Council,” one diplomat said, stressing that the governments will need to see more analysis before committing to any more steps.

Looking for action

Spain wanted a much more robust response. Madrid has been arguing since last summer for “decoupling” gas from the electricity market; together with Portugal, it also mulled limiting the wholesale price of electricity to €180 per megawatt-hour — a proposal that Spain abandoned under fire from industry and consumer groups. 

Now Madrid is pushing to get a specific permission in the summit’s final conclusions that would allow countries to voluntarily apply certain short-term solutions such as price caps, according to a draft with track changes seen by POLITICO.

The issue with a cap is if gas prices are higher than the cap, Spain might not be able to buy any gas.

Price caps — either on the electricity or gas market — are “not a good option,” said Natalia Collado Van-Baumberghen, a research economist at Spain’s EsadeEcPol think tank.

“If you impose a price cap [on the gas market], how are you going to attract more LNG cargoes to Europe?” she said. “When there’s a peak of demand for gas … Asia is able to pay more for that gas, obviously the cargoes go to Asia.”

Spain’s ideas have been picked up by other leaders. 

​​”We have discussed the importance of decoupling, a separation between gas and electricity. We discussed the possibility of having a controlled price in the gas market,” Italian Prime Minister Mario Draghi said after meeting with his Spanish, Portuguese and Greek counterparts last week. “We have similar ideas. But we have to convince other member states, states that have different needs and very different structures and infrastructures,” he added.  

Belgian Prime Minister Alexander De Croo has also come out with the proposal to set a temporary price cap on wholesale prices in European gas markets at €120 per megawatt-hour. 

The Commission said it would look at options to “optimize” the EU’s electricity market by May. First, it wants to analyze the outcomes of an upcoming report from the European Union Agency for the Cooperation of Energy Regulators. 

Brussels is open to countries intervening directly in the wholesale electricity market through price caps or compensating fossil-based electricity generators. But such steps entail potential drawbacks — cost, distortion of competition, risks to cross-border trade and security of electricity supply. 

External experts and other EU governments are also wary of such a high level of intervention. 

“Quite frankly, there’ll be no undermining of market mechanisms or permanent subsidies, especially on fossil energy,” Scholz said on Wednesday. 

There’s also worry that decoupling gas from the electricity market would remove an incentive to invest in renewable energy — one of the cornerstones of the European Green Deal and also tied to the EU’s plan to drop Russian fossil fuels. 

The electricity market was designed to be “the best mate” of renewable energy generators, said Collado Van-Baumberghen. “We shouldn’t change the market because [it’s] the most efficient way to go to our goal of 100 percent of renewable generation.”

That’s pretty thin gruel to national leaders under fire at home.

“This is a gas crisis. This is not an electricity crisis,” said Tim Schittekatte, postdoctoral associate at the MIT Energy Initiative. “In the short-term electricity market, it does exactly what you expect it to do … this is nothing wrong. What does not mean that the impact on the final consumer bills and industry bills is not something to worry about.”

Paola Tamma, Camille Gijs and Hannah Roberts contributed reporting.

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