EC power market design 'non-paper' sets out path to rapid implementation

Reform of Europe's power markets should focus on moving renewables to cost-reflective contracts supported by a short-term market for gas-fired power, the European Commission said in a "non-paper" sent to member states ahead of the European Energy Council Oct. 25.

Member states are meeting in Brussels to discuss gas price controls, and how to limit the influence of high gas prices on power price formation.

"Such a reform should address only those essential elements of the market design that can be implemented rapidly," the EC said in its discussion document.

Renewables and other inframarginal generators like nuclear would be remunerated under Contracts for Difference, independently of the marginal price, it said.

At present Europe's wholesale power prices are set by the last unit called to meet demand – the marginal unit. All generators in the stack get this price. As such, generators with costs well below those for gas generators have been making excess profits on the back of the crisis.

"The price of these [CfD] contracts would typically be established by tendering and will be a direct function of the actual production costs of the relevant technologies," the EC said.

This could be established almost immediately for new renewables.

For existing generators, the current inframarginal cap of Eur180/MWh ($178/MWh) "could be directly integrated into the functioning of the wholesale market to facilitate its practical implementation and incentivize the transition of existing generators to a long-term pricing structure based on contracts for difference," it said.

Meanwhile this new revenue structure based on CfDs would need to be complemented with a short-term market for gas plant ensuring the cheapest, most efficient technology is used "at any moment in time."

"This can be ensured through a well integrated and interconnected market whereby any barriers for alternative technologies like storage and demand response are removed" so they can progressively replace gas plants, the EC said.

On a possible short-term gas-for-power price cap, meanwhile, the EC said a subsidized target price for gas of Eur100-Eur120/MWh would help avoid generation merit order changes.

Even at this relatively high price, however, gas-for-power demand would be expected to increase by between 5 Bcm-9 Bcm, mainly on account of exports outside the EU, notably to the UK and Switzerland.

Agreement with third countries to extend the gas-for-power cap would help address this.

Alternatively, some member states have proposed a two-step clearing process in the wholesale market, reserving lower prices created by the cap to intra-EU trade, while exporting at a higher price, the EC said.

This second option would pose a significant challenge to the EU's market coupling process, the non-paper noted, while trade agreements prohibit the creation of higher export prices.

Platts, part of S&P Global Commodity Insights, assessed Dutch TTF day-ahead gas at Eur27.50/MWh Oct. 24, its lowest price since June 2021 and down from Eur203.83/MWh as recently as Sept. 27.

Coal to gas switching model

Based on current coal and EU ETS forward prices, gas prices would have to fall to Eur90/MWh in Q4 2022 and to Eur86/MWh on average in 2023 for a highly efficient 59% gas-fired unit to become competitive with an old, 35%-efficient hard coal unit, S&P Global Commodity Insights said in its weekly European electricity report Oct. 6.

Assuming third countries did not implement a similar gas-for-power price cap, S&P Global forecasts a near 5 GW uplift in gas-fired generation across the 10 European markets it models for the year to December 2023.

"The uplift in EU markets is higher, however, as the above includes a fall in GB gas-fired generation of 1.3 GW in December 2022 and of 1.8 GW on average in 2023 compared with the base case," it said.

This was largely as lower EU power prices lifted French net exports to GB to an average 3.2 GW in December 2022 to December 2023.