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DRAFT FINAL REPORT Cambridge Economic Policy Associates

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DRAFT FINAL REPORT Cambridge Economic Policy Associates SCOPING TOWARDS POTENTIAL HARMONISATION OF ELECTRICITY TRANSMISSION TARIFF STRUCTURES AGENCY FOR COOPERATION OF ENERGY REGULATORS (ACER) JUNE 2015 DRAFT FINAL REPORT Prepared by: Cambridge Economic Policy Associates Ltd CONTENTS 1. Introduction .............................................................................................................. 1 1.1. The European electricity market ............................................................................... 1 1.2. Tariff structure harmonisation .................................................................................. 2 1.3. Scope of study ............................................................................................................ 2 1.4. Study methodology .................................................................................................... 3 1.5. Report structure ......................................................................................................... 4 2. Context of study ....................................................................................................... 6 2.1. The Internal Electricity Market .................................................................................. 6 2.2. Objectives for transmission tariffs ........................................................................... 10 3. Transmission tariff structures in Europe today ......................................................... 12 3.1. What are transmission tariffs? ................................................................................ 12 3.2. The situation in Europe today .................................................................................. 13 3.3. Summary .................................................................................................................. 20 4. Optimal transmission access pricing and cost allocation .......................................... 21 4.1. Introduction ............................................................................................................. 21 4.2. Cost reflectivity ........................................................................................................ 21 4.3. Cost recovery ........................................................................................................... 26 4.4. Implications for European tariff structure harmonisation ...................................... 27 5. Impacts of current arrangements ............................................................................ 29 5.1. Impacts on investment decisions ............................................................................ 30 5.2. Impacts on operational decisions ............................................................................ 40 5.3. Conclusions .............................................................................................................. 45 6. Policy options ......................................................................................................... 48 6.1. Short-term regulatory response .............................................................................. 49 6.2. Longer-term regulatory response ............................................................................ 53 7. Recommendations .................................................................................................. 59 ANNEX A European market integration ....................................................................... 60 ANNEX B Current transmission tariff structures in Europe ........................................... 62 ANNEX C Literature review ......................................................................................... 71 ANNEX D 4M Market Coupling Region ......................................................................... 84 ANNEX E Central Western Europe market coupling region .......................................... 94 IMPORTANT NOTICE This report has been commissioned by the Agency for Cooperation of Energy Regulators (ACER). However, the views expressed are those of CEPA alone. CEPA accepts no liability for use of this report or any information contained therein by any third party. © All rights reserved by Cambridge Economic Policy Associates Ltd. Executive Summary Cambridge Economic Policy Associates (CEPA) has been appointed by the Agency for the Cooperation of Energy Regulators (ACER) to conduct a study on ‘Scoping towards potential harmonisation of electricity transmission tariff structures’. The purpose of the study is to help inform ACER’s future considerations in relation to electricity transmission tariff structure harmonisation policy in Europe. Optimal transmission access pricing and cost allocation In interconnected electricity transmission networks, electricity generators and consumers (load) may impose various costs on the transmission system. Most of these costs can be attributed to the generators’ and consumers operational and investment decisions, and they often vary by location and with energy demand over time. Because of the physics of electricity, interactions arise in such networks and the costs imposed by one user of the network, often depend on the actions taken by other users. A key requirement for economic efficiency (i.e., the least-cost development of the overall power system) is that all market participants, both generation and load, internalise all the costs they generate at the time they make their operational or investment decision. Transmission charging is one tool that can be used to convey some of the costs of using the power system. In order to ensure the most efficient (i.e., the least-cost) development of the overall power system, it is important to have a transmission charging regime in place that is reflective of all actual system costs imposed by each user of the transmission network. However, due to the natural monopoly characteristics of the electricity transmission system, efficient (i.e. cost reflective) tariff structures, may not always guarantee that the Transmission System Operator (TSOs) is able to recover all of its costs. Therefore, further adjustments of its charges are often needed to reconcile the two objectives. Whilst economic theory points to how this issue can be addressed in an efficient way, there is still an inherent balance to be struck between, on the hand, applying efficient (i.e. cost reflective) charges, and on the other hand, ensuring that the tariffs applied recover the TSOs efficiently-incurred costs. Transmission tariff structures in Europe today Electricity transmission charging arrangements employed today across European Member States (MS) and neighbouring countries, such as Norway, are many and varied, and currently there is no common “model” adopted. This reflects the different features of each national electricity market (e.g. the location and mix of generation and planned future investment in the network), but also the emphasis that individual MS have chosen to place on certain policy objectives for their electricity sectors and the design of the transmission tariff structure. i Some countries place an emphasis on developing a tariff structure considered, in the context of that country, to be cost reflective. In these cases, tariffs are based on forward looking (marginal) costs, and often vary by location. Other countries apply a far simpler tariff structure, with the single objective of enabling the Transmission System Operator (TSO) to recover its costs. To recover costs, some countries levy transmission tariffs on both generation and load users of the network, whilst other countries apply tariffs only to load. European MS also apply varying capacity and energy based components through their transmission tariff structures: in some countries, transmission use of system tariffs are predominantly capacity based (e.g. GB and Italy); whilst in other countries, the tariff structure is predominantly energy based (e.g. Denmark and Finland). Problem identification We have analysed whether the current absence of harmonisation in transmission tariff structures creates any problems for the European electricity market. We find that in theory, there is certainly the potential for the current absence of harmonisation to impact negatively on the efficiency of the European electricity market, by distorting the investment and operational decisions of market participants, in particular electricity generators. These distortions potentially prevent the efficient (i.e. least-cost) development of the European electricity system, and may, therefore, reduce economic welfare in Europe. Our analysis also suggests that these problems are likely to be more of an issue in the future as national electricity markets become more interconnected and integrated. However, for the identified theoretical harmful effects to actually apply in practice, a number of conditions must hold in Europe’s electricity market. In particular, neighbouring countries, or bidding zones, that apply different tariff structures must be: physically interconnected; the countries or bidding zones must be highly integrated (resulting in cross-border competition); and market participants must have the flexibility to alter their behaviour (e.g. siting decisions) in response to incentives created by a lack of harmonised tariff structures. Recognition of the potential negative effects from an absence of harmonisation is also already reflected in various regulations introduced through European legislation. For example, Regulation (EC) No 714/2009 on
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