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Client Alert: European Commission starts State aid investigation into Belgium’s power capacity mechanism – how could this affect the UK?

Volterra Fietta Client Alert
30 September 2020

On 4 April 2019, the Belgian Parliament approved a bill setting out a national capacity mechanism aimed at safeguarding the security of electricity supply in Belgium. Preventing future electricity shortages has been of particular concern to Belgium since its decision to phase out all nuclear capacity by 2025.

Under the new capacity mechanism, energy capacity providers selected through a competitive bidding process would be remunerated for offering their availability to produce electricity during periods of peak demand. This availability would be offered to Elia, Belgium’s transmission system operator (TSO) responsible for transporting electricity in Belgium.

On 21 September 2020, the European Commission (“EC”) opened an in-depth investigation to assess the compliance of Belgium’s capacity mechanism with European Union (“EU”) State aid rules, and particularly with the EC’s 2014 Guidelines on State aid for environmental protection and energy.

The results of the investigation will affect energy markets beyond Belgium, and may prove relevant to the United Kingdom’s (“UK”) Brexit negotiations – in particular, the sensitive issue of whether EU State aid rules should continue to apply following the end of the Brexit transition period on 31 December 2020.

 

Background

Only three decades ago, national energy markets of EU Member States were monopolised. In the UK, for example, from the 1950s until the early 1990s the State-owned Central Electricity Generating Board (“CEGB”) was responsible for the generation and transmission of electricity in England and Wales. The unravelling of CEGB’s monopoly in the UK began in the 1980s, with the Thatcher government’s attempts to privatise the sector. For many Member States, however, the end of their monopolised electricity markets began with the adoption of the EU’s First Energy Package in 1996.

The EU’s First Energy Package introduced measures to liberalise Member States’ energy markets and harmonise the EU’s internal energy market. Vertically integrated companies were asked to “unbundle” their accounting by keeping separate books for their generating, transmitting, distributing and supplying activities. The TSOs and distribution system operators of a Member State were required to provide third parties access to the energy network.

The EU’s Second Energy Package, adopted in 2003, imposed legal unbundling in order to facilitate third party access to national networks. One legal entity could operate one activity; it could generate but not transmit, for instance. In 2009, the Third Energy Package was adopted, and various forms of ownership unbundling were introduced. Companies generating or supplying energy can no longer own a majority share or otherwise exercise rights over a TSO. For companies that have decided to maintain ownership over a physical energy network, the operation of the network must be done by an entirely independent company or subsidiary.

The EU Energy Packages have contributed significantly to the liberalisation of Member States’ energy markets, but the framework still allows for some State intervention. In particular, the EC has recognised the utility of national capacity mechanisms in ensuring the security of electricity supply in Member States. These capacity mechanisms, however, must comply with the EU’s State aid rules, and specifically with the 2014 Guidelines on State aid for environmental protection and energy.

 

The European Commission’s investigation

Belgium’s proposed capacity mechanism would replace its strategic reserves, a scheme that comes to an end in the winter of 2021-2022. The strategic reserves were implemented in 2014, but it was not until 2018, after the mechanism was amended to comply with State aid rules, that it received the EC’s stamp of approval. Similarly, Belgium’s capacity mechanism may need to undergo changes in order to be brought in line with EU State aid rules.

When the EC opened its investigation to assess the compliance of Belgium’s capacity mechanism with EU State aid rules, it outlined three main concerns with the mechanism.

First, according to the EC, Belgium has not yet sufficiently demonstrated nor quantified its resource adequacy challenges. The EC will determine whether the State aid, through the capacity mechanism, goes beyond what is necessary in order to ensure security of electricity supply in Belgium. Second, the EC stated that the capacity mechanism may “unfairly limit” cross-border participation in Belgium’s electricity market, and discriminate against certain technologies, in particular those providing renewable energy. Third, Belgium’s TSO, Elia, would receive “congestion revenues” for providing foreign capacity providers access to the Belgian capacity mechanism. The EC will examine the allocation of such access rights; under EU law and policy, allocation mechanisms should encourage the interconnection of Belgium with neighbouring States, and not have adverse effects on competition and trade.

 

Relevance for the UK

Energy links have long existed between Belgium and several other Member States, including the UK. Therefore, the EC’s decision on the compliance of Belgium’s capacity mechanism with EU State aid rules will necessarily have repercussions beyond Belgian borders. In early 2019, the first UK-Belgium electricity link, capable of transmitting 1000 MW, enough electricity to power one million homes, became operational. This has increased the sensitivity of the UK electricity market to changes in Belgium’s market. The Belgian capacity mechanism, in its present state or after the EC imposes amendments, may affect the direction of the electricity flow (i.e., export/import balance) through the UK-Belgium interconnector.

Further, the EU’s State aid regime is a contentious issue in Brexit negotiations. The UK is well acquainted with the application of EU State aid rules to its energy market. In 2014, following an in-depth investigation, the EC approved a British capacity market scheme, only to have the decision annulled by the EU General Court in 2018. The EC reopened the investigation in February 2019, but ultimately re-approved the capacity market scheme in October 2019.

The EC’s investigation into Belgium’s capacity mechanism is a stark reminder of the potential relevance of EU State aid rules to the British energy sector.  It exemplifies the EC’s current approach to evaluating Member States’ capacity mechanisms. The investigation may thus prove highly relevant to the UK’s negotiating strategy regarding the extent to which EU policy will continue to influence the UK’s State aid regime following the end of the Brexit transition period on 31 December 2020.

 

For further information, please contact Graham Coop (graham.coop@volterrafietta.com).