Explanation-How could Europe limit soaring energy prices?

FRANKFURT/BRUSSELS: The European Union is preparing a contingency plan to separate electricity prices from the gas price spike – along with longer-term reforms to ensure that electricity prices reflect the cheaper renewable energy.

Energy ministers from EU countries will meet on September 9 to discuss how to ease the burden of soaring energy prices on businesses and households as a matter of urgency.

Electricity costs in Europe rose last year, driven by record gas prices as Russia curtailed supplies in Europe.

European governments have accused Moscow of using the energy as blackmail, in retaliation for Western support for Ukraine after the Russian invasion. Russian gas giant Gazprom says it is a reliable supplier and blamed the flow cuts on technical issues.

Changing the energy systems of the 27 EU countries can be complex and time-consuming, as cross-border trade in energy products between bloc members has taken two decades to emerge and solidify. But policymakers are racing to find a short-term solution.

Here’s why Europe is considering energy market reforms and what they might entail.

WHY IS THE PRICE OF ELECTRICITY LINKED TO GAS?

In the EU energy system, the wholesale price of electricity is set by the last plant needed to meet overall demand.

Wind farms, nuclear, coal and gas power plants and all other generators bid on the electricity market, with the cheapest sources coming first, followed by more expensive sources like gas. Gasworks often set the price in this system.

The idea is that, as all producers sell their electricity at the same price, the cheaper renewable energy producers end up with a higher profit margin – a stimulus that incentivizes more investment in the production of renewable energy whose Europe needs to achieve its climate change goals.

But countries including Spain have said the system is unfair because it results in cheap renewable energy being sold to consumers for the same price as more expensive fossil fuel-based electricity.

Gas prices have soared as Russia cut the volumes it sends to Europe. Gas prices are determined by global competition for fuel, and European buyers compete with companies from other countries to grab non-Russian gas.

The effect was to drive up the price of electricity generation from gas in Europe, leading to an overall increase in electricity prices.

“The current market design offers Russia, for example, a virtual leeway for destructive market manipulation,” Nina Scheer, parliamentary energy spokeswoman for the main Social Democrats, wrote on Tuesday. of the Berlin coalition, in the business daily Handelsblatt.

Other factors pushing power prices up include problems with France’s nuclear power plants and the severe drought in Europe that has hampered hydroelectric generation and affected coal deliveries.

Germany’s benchmark power contract for 2023 hit 1,050 euros per megawatt-hour (MWh) on Monday, 14 times the level a year ago.

HOW COULD THE EU CHANGE ENERGY PRICES?

European Commission chief Ursula von der Leyen said on Monday that the EU should decouple the price of gas and electricity, without giving further details.

The Czech Republic, which holds the rotating presidency of the EU, is mobilizing for a cap on the price of gas used to produce electricity.

The idea of ​​capping gas or electricity prices has long been backed by Spain, Belgium and others, and now initially reluctant by Austria and Germany. France is one of the states in favor of action to separate the price of electricity from the price of gas.

One option, proposed by Italian Prime Minister Mario Draghi, would be for EU countries to agree to a cap on the price of gas imported from Russia. Critics say it would risk completely cutting off Europe’s gas supply in retaliation.

Another option could be for governments to cap the price of gas and pay gas companies the difference between the capped price and the higher market price.

Countries including Germany and the Netherlands have previously opposed it because it would effectively subsidize fossil fuel production with public funds they say would be better spent switching to cheaper clean energy.

Other options could include restricting the participation of financial speculators in gas markets or creating a parallel gas-fired electricity market separate from the existing electricity market.

WHAT ARE THE POTENTIAL CONS?

High gas prices provide financial incentives for industries and households to reduce their gas consumption – a change in behavior that governments are trying to encourage to ensure there is enough fuel to get through the winter.

Capping the price of gas would limit that incentive, and critics say it could even encourage greater gas use when governments need to roll out policies to reduce consumption.

Some analysts have suggested that targeted financial support for low-income households and businesses hardest hit by the price spike would be a better option than a hasty market overhaul.

Other questions remain as to how governments could cap the cost of gas-fired electricity in a way that does not encourage gas plant owners to produce less electricity when countries need it. urgent.

(Reporting by Vera Eckert and Kate Abnett, editing by Barbara Lewis)

Mary I. Bruner