Kroes speech at conference E-world energy + water
Neelie Kroes, European Commissioner for Competition Policy, Energy conference: E-world energy & water’
Essen, 5th February 2007
‘A new European Energy Policy; reaping the benefits of open and competitive markets’
Ladies and gentlemen, I am delighted to be here in Essen today. It’s a particularly apt location to be talking about European energy policy in the year that we celebrate the fiftieth anniversary of the Treaty of Rome, because energy policy and this region of Europe were central to the start of the European project with the founding of the European Coal and Steel Community. And, as President Barroso has wisely said, now is the time to return energy policy to the centre stage.
Just a few weeks ago the Commission presented a comprehensive package of measures to establish a new Energy Policy for Europe, to combat climate change and boost the EU’s energy security and competitiveness. This morning I’ll talk about a specific part of that package, the sector inquiry into competition in electricity and gas markets, and outline how the findings of this important report tie into our aims of secure, affordable and sustainable energy supplies, and why we need to take action now.
We launched the sector inquiry because it was clear that there was no such thing as a competitive Single Market for energy in Europe. We weren’t seeing the consumer benefits expected from liberalisation in terms of lower prices and better choice of services. Instead, we saw – and continue to see – high prices, black-outs and anxiety about security of supply. This is bad for every citizen and every business in Europe, and is holding back European competitiveness.
2. Sector Inquiry findings and recommendations
Sadly, the final report of the inquiry has confirmed that more than a decade after having launched the drive for liberalisation, we are still far from having a single, competitive and well-functioning European energy market. This is bad news, because we need market-based competitive electricity and gas prices to achieve our aim of having secure, sustainable and affordable energy.
The report found that despite two waves of European liberalisation Directives, historic incumbents remain dominant on their traditional markets throughout the supply chain. To enter a market, and provide real competition, new players need access to energy supplies, to the network and to customers. Yet they are impeded by three interlinked structural problems – all legacies from the pre-liberalisation national market structure:
- First, many energy markets are too highly concentrated;
- Second, there is an absence of cross-border integration and cross-border competition and;
- Third, there is a high degree of vertical integration in many energy markets.
Let’s look briefly at the first problem: the high concentration of energy markets. In general, energy markets remain national in scope, with a similarly high level of concentration to before liberalisation. Consistent with what one would expect, the absence of real competition doesn’t seem to be delivering a good service to consumers – and German consumers are paying some of the highest energy prices in the European Union.
The second structural problem, the absence of cross-border integration and cross-border competition, is both a symptom and a cause of the persistence of country-based energy markets. Insufficient powers for some national energy regulators, and a lack of coordination between them have created a ‘regulatory gap’, undermining cross-border supplies and investment. Limited cross-border cooperation between Transmission System Operators, or TSOs, has also slowed the development of a true EU energy market.
These problems relating to the outdated market structure are further compounded by a lack of transparency, and no trust in the pricing mechanisms. When prices do not react to changes in actual supply and demand, investment in both infrastructure and alternative energy sources is threatened, which in turn threatens our security of supply.
3. Why ownership unbundling is needed
Let me now elaborate on the third structural problem highlighted by the report: the continued existence of vertically-integrated energy companies.
The EU’s liberalisation directives introduced a system of legal unbundling that was intended to ensure that the incumbent supplier would not use its ownership of distribution and transmission networks to prevent new entrants from gaining access to the market.
But the fundamental problem with the current system of legal unbundling – where companies control energy networks as well as production or sales – is that it creates a conflict of interest inside a company. Why? Because enabling non-discriminatory third party access to the network, which is absolutely essential for a competitive market, may not always be compatible with optimising the return of other parts of the vertically-integrated business.
For example, the sector inquiry uncovered some practices by vertically-integrated companies which seemed to be aimed at making it very difficult for new entrants to establish a credible presence in an energy market. These include limiting competitors’ access to network capacity through the hoarding of capacity by the incumbent, discriminatory terms and conditions for new power plants to be linked to the network, and the use of artificially small balancing zones to raise costs for new entrants. Legally unbundled companies are supposed to put in place information barriers between their transmission activities and their commercial distribution activities. Despite this, information leakage through these ‘Chinese walls’ is all too common, giving the company’s supply business an advantage over its competitors.
Undermining competition in this manner pushes up prices for consumers and reduces security of supply. Companies wanting to invest in developing the renewable energy resources Europe so badly needs for security of supply won’t do so unless they know they will be able to have equal and fair access to networks and customers.
This conflict of interest within vertically-integrated companies also seems to have depressed investment in interconnecting capacity. Investing to expand transmission infrastructure should enable more energy to be provided by more suppliers, bringing prices down and increasing security of supply. Good news for everybody – apart from the incumbent energy supplier whose prices could be maintained at a higher level if insufficient transmission capacity squeezes out competitors and leads to scarcity.
So, for example, in a recent case in Italy, the national competition authority fined the gas incumbent for delaying investments into its supply infrastructure because of the negative effect this might have had on its own gas sales.
And let me give you another example closer to home. As you will know, where interconnector capacity is scarce, it is auctioned off to the highest bidder, generating congestion revenues. If you look at our report, you will find that from 2001 to 2005, three German TSOs generated congestion revenues of over 400 million euros. Of these revenues, under 30 million euros were used to build new interconnectors- that’s less than 10%!
In contrast, our experience shows that fully unbundled operators see clearer incentives for investment in interconnectivity, and act on those incentives, because they are focused on optimising the use of the network. And we all agree that investment in interconnectivity is immensely important for European security of supply, because it offers the prospect of every Member State being supplied by energy that may have entered the EU hundreds of kilometres away – thereby bringing to an end many countries’ dependence on one or two external suppliers for energy.
It’s clear that the current system contains an inherent conflict of interest for vertically integrated companies, and offers no clear economic incentive to change their behaviour. This is why the European Commission sees full ownership unbundling as the most effective option to solve the problems of discrimination, and the distortion of incentives to invest in connecting regional or national networks.
As you will be aware, the Commission has also examined an alternative approach known as ‘ISO’ or Independent System Operator, whereby the vertically integrated company maintains ownership of the network assets and receives a regulated return on them, but is not responsible for their operation, maintenance or development. This system would be an improvement on the status quo but it does not address investment incentives as effectively as ownership unbundling. It would also be at a price of complex regulation and heavy administrative burdens, and so would be directly contrary to the ‘Better Regulation’ agenda which the Barroso Commission is pursuing so energetically, and which is also high on the agenda of Germany’s EU Presidency.
Prevention is better than cure. With full ownership unbundling we can remove the root cause of the problems associated with the current outdated market structure. Any solution short of full ownership bundling will simply consign us to trying to treat the problems of the current model. If we are serious about delivering more secure and cheaper energy to Europe’s consumers, full ownership unbundling is the most simple and effective way forward.
4. Sector Inquiry recommendations
Stronger competition in the energy sector will lead to more choice, security of supply, and prices that on average better reflect the real cost of energy. To achieve this, we need to see not only continued enforcement of competition law, but also a strengthening of the regulatory framework. And by this I mean permanent structural changes to resolve the problem of vertically integrated supply and network companies, plus stronger regulators, enhanced coordination and increased transparency.
I know some people argue that liberalisation is already happening, and that we should wait a little longer to reap the benefits. But it’s simply not the case that waiting for full implementation of existing legislation across all Member States will be enough – because many of the problems found by the report occurred where the existing Directives have already been fully implemented. Don’t forget that we are already enforcing existing competition law – in both May and December last year we carried out investigations into possible violations of competition rules by energy companies. These actions confirm that problems persist, and that current structures are not as they should be.
What’s more, long lead-times for critical investments in the energy sector mean we need to get things right now. It takes 4-5 years to build a new power station, 5-10 years to construct a gas pipeline, and sometimes longer still to develop new technologies. Each year that we wait to act is not just another year we will all be paying higher bills, and feel anxious about security of supply – but is actually consigning us to several years of anxiety and paying too much!
Ladies and gentlemen, my message this afternoon is a simple one. It is time for change, and we can not afford to wait any longer. We need to be ambitious now to deliver secure, affordable, and sustainable supplies.
This is in the interest of our citizens and businesses. And it does not have to be against the interest of the energy companies. Ownership unbundling will solve the inherent conflict of interest that can only be detrimental to the long-term future of any company. It will also offer opportunities for all energy companies to engage in cross-border activities, to expand into different national markets and to develop new technologies and alternative energy resources. It is not a zero-sum game, but an opportunity to create a win-win situation for Europe. And that’s why I am calling upon you to embrace this change.
Additional background information (provided by Infrasite’s Editorial Staff)
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