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Regulatory economics I:
Regulators’ role in competitive markets
Prepared by
dr. Gábor Szörényi
ERRA
21st Training Course: Fundamentals of Energy Regulation
May 2 – May 4, 2018 • Nicosia, Cyprus
Regulators’ role in competitive markets and on the road
reaching effective competition - Table of Contents
─ Problems hindering efficient market operation
─ Wholesale market structures in the market building
process
─ Conditions of efficient competition
─ Special effects of the financial and economic crisis in
the transient period of market building
─ Foreseen international tendencies in wholesale market
conditions
─ Potential Regulatory actions supporting the national
and regional market building
Discussing specificities of the Cypriot market structure,
operational model, geographical situation and potential
regulatory tools supporting market building and competition
31st Training Course: Fundamentals of Energy Regulation
May 2 – May 4, 2018 • Nicosia, Cyprus
General regulatory attitude in most national markets
Belief of Regulators; the functioning, competitive wholesale and retail markets (efficient competition) could „control”;
➢energy component of end-user prices,
➢quality of supply
Problems identified:
– ERRA market structure analysis
– ERRA wholesale market monitoring system
– European Commission „Report on progress in creating the internal gas and electricity market” SEC(2010)251-Brussels, 11.3.2010
41st Training Course: Fundamentals of Energy Regulation
May 2 – May 4, 2018 • Nicosia, Cyprus
Market Structure and Market Condition problems
hindering efficient market operation (1)
Key Problems on EU and non-EU ERRA markets (but to different extent and with different focus):
– Concentrated markets
– Lack of investment
– Security of Supply
– Supportive legislative framework
– Market integration
– Price trends, price regulation, regulated end-user prices (in several EU member states has end-user price control for households and in some member states for non-households as well)
– Independence of network operators
– Regulatory power
– Customer protection
51st Training Course: Fundamentals of Energy Regulation
May 2 – May 4, 2018 • Nicosia, Cyprus
Conditions of effective competition
─ Market structure, which facilitates efficient competition
─ Access to networks
─ Supply market - reserves, import
─ Market size, possibility of regional markets
─ Number of players
─ Eligible customers with willingness to changesupplier
─ Adequate pricing, price signals
Market Structure and Market Condition problems
hindering efficient market operation (2)
61st Training Course: Fundamentals of Energy Regulation
May 2 – May 4, 2018 • Nicosia, Cyprus
Market Structure and Market Condition problems
hindering efficient market operation (3)
Concentrated (national) markets
less chance for effective wholesale and retail competition
potential solutions:
- restructured incumbent (more generation comp.)
- renegotiated PPAs
- creation of regional markets (mitigation of market power)
Proposed solution in „The new electricity market arrangement in Cyprus”?Decree of Concentration:
71st Training Course: Fundamentals of Energy Regulation
May 2 – May 4, 2018 • Nicosia, Cyprus
Market Structure and Market Condition problems
hindering efficient market operation (4)
Development of Market Structures
There are four main ways to structure the electricity industry.
The main models are defined by the degree of competition:
– Model 1. has no competition at all
– Model 2. Allows or requires a single buyer or purchasing agency to choose from a number of different producers, to encourage competition in generation.
– Model 3. Allows former distribution companies (Distcos= distribution + retailer) to choose their supplier, which brings competition into generation and wholesale supply.
– Model 4. Allows all customers to choose their supplier, which implies full retail competition.
81st Training Course: Fundamentals of Energy Regulation
May 2 – May 4, 2018 • Nicosia, Cyprus
Market Structure and Market Condition problems
hindering efficient market operation (5)
Market structures
91st Training Course: Fundamentals of Energy Regulation
May 2 – May 4, 2018 • Nicosia, Cyprus
Model 2. Purchasing Agent (SB) Competition in Generation
Market Structure and Market Condition problems
hindering efficient market operation (6)
101st Training Course: Fundamentals of Energy Regulation
May 2 – May 4, 2018 • Nicosia, Cyprus
The features of transition: competition dimension
Market Structure and Market Condition problems
hindering efficient market operation (7)
111st Training Course: Fundamentals of Energy Regulation
May 2 – May 4, 2018 • Nicosia, Cyprus
Power Sector Reform Path in Hungary
1945
Vertically
integrated
1992
Legal Separation: - generation
- transmission
- distribution/supply
1897-1945 1995
Privatization
State-owned
Enterprise
State-owned
Corporation
Wholesale
Competition
Ow
ner
ship
Str
uct
ure
Scope for Competition
Retail
Competition
Single
Buyer
Monopoly
Private
Corporation 2003 Limited Competition
2008 Competition
Market Structure and Market Condition problems
hindering efficient market operation (8)
121st Training Course: Fundamentals of Energy Regulation
May 2 – May 4, 2018 • Nicosia, Cyprus
Power Sector Reform Path in Hungary
GENERATORS (EXCEPT NUCLEAR)
2003/20041995/96
4-5 YEARS
1991/92
RESTRUCTURING
TRANSMITTER/WHOLESALER
DISTRIBUTORS/SUPPLIERS (6)
COMPETITION
DISTRIBUTORS/SUPPLIERS
6-7 YEARS
PRIVATIZATION
GENERATORS (8)
WHOLESALER
Market Structure and Market Condition problems
hindering efficient market operation (9)
131st Training Course: Fundamentals of Energy Regulation
May 2 – May 4, 2018 • Nicosia, Cyprus
Power Sector Reform Path in Hungary –Market Concentration after Restructuring
TITÁSZ
12% ELMÜ
27%
ÉMÁSZ
16%
DÉDÁSZ
12%
ÉDÁSZ
22%DÉMÁSZ
11%
RWE
43%E.oN
35%
EdF
22%
Tiszai
18%
Vértes
5%
Paks
26%
Mátra
11%
Others
10%Dunamenti
30%
AES
18%
Others
10% Tractabel
30%
RWE
11%MVM
31%
MARKET SHARES OF
POWER SUPPLIERS AND
THEIR OWNERS ON THE
BASIS OF ELECTRICITY
SALES
MARKET SHARES OF THE
IMPORTANT POWER PLANTS
AND THEIR OWNERS ON THE
BASIS OF PRODUCTION
CAPACITY
141st Training Course: Fundamentals of Energy Regulation
May 2 – May 4, 2018 • Nicosia, Cyprus
Benefits, Results of the Hungarian Restructuring,
Privatization and Liberalization
RESTRUCTURING (1991/92):
- SEPARATION OF ACTIVITIES, ASSETS → MORE PLAYERS ON THE MARKET
- PRACTICE IN COMMERCIAL BUSINESS BETWEEN COMPANIES → READINESS FOR
PRIVATIZATION
PRIVATIZATION (1995/96):
- PRIVATIZATION INCOME FOR THE STATE BUDGET → REDUCTION OF PUBLIC DEBT
- TRANSFER OF KNOW- HOW, AND MANAGEMENT PRACTICE
- NEW INVESTMENT (GENERATION, DISTRIBUTION)
- COST CUTTING → READY FOR COMPETITION
- LONG TERM PPAS → NEGATIVE EFFECT ON FUTURE COMPETITION
LIBERALIZATION, COMPETITION (2003, 2008):
- 5 – 10% PRICE SAVING OF ENERGY TRADED FOR ELIGIBLE CUSTOMERS (18-
20%) → INCREASED COMPETITIVENESS OF LARGE CUSTOMERS
151st Training Course: Fundamentals of Energy Regulation
May 2 – May 4, 2018 • Nicosia, Cyprus
– Clear model (responsibilities, rights, duties)
– Take into consideration domestic constraints (ownership
structure, market power, given commitments, PPAs, price
structures, political support or unconcerned environment,
lobbying power of market players, etc.)
– Preparing feasibility studies (possibility of effective
competition; impact on prices, on new investment)
– „Negotiation” with investors on the accepted level of new
risk elements
– Clear written procedure on the stranded cost issues
regarding renegotiation of PPAs
Lessons learnt during preparation of liberalization
Market Structure and Market Condition problems
hindering efficient market operation (10)
161st Training Course: Fundamentals of Energy Regulation
May 2 – May 4, 2018 • Nicosia, Cyprus
Potential regulatory measures
on concentrated marketsWhat to do, when the competition is not efficient enough
controlling the wholesale and retail prices?
US – FERC practice: Competition test
EU Telecom practice: Significant Market Power (SMP) concept
– Ex Ante (compared to the Ex Post interaction of Competition
Authorities)
– Market analysis of the different markets (identification of
players with significant market power on the relevant markets)
– Impose Ex Ante obligations (gas release, auctioning capacity,
cost based pricing [instead of market based], more
transparency)
– Hungarian SMP procedures as examples in the energy industry
(could be useful practice handling Cypriot Dominant Participant)
171st Training Course: Fundamentals of Energy Regulation
May 2 – May 4, 2018 • Nicosia, Cyprus
Restructuring, Privatization, Liberalization (Competition)
– Present structure of the industry
– Capacity balance situation (generation adequacy)
– Size of the system, the number of potential players
– Necessity of privatization income and/or involvement of
private capital and modern technology
– Price structure (internal , end-user), pricing system ®
– Level of non-payment (private involvement into distribution,
and retailer/supply side)
– Political will to privatize and to introduce competition
Too many changes in one step could jeopardize supply security!
Discussing specificities of the Cypriot market structure,
operational model, geographical situation and possibility
creating competitive model
Aspects determining the sequences of changes
181st Training Course: Fundamentals of Energy Regulation
May 2 – May 4, 2018 • Nicosia, Cyprus
Access to the Networks – as Condition of
Effective Competition
─ All elements of Good TPA Practice is important (clear definition of free capacities ; congestion management rules; system services market; market conditions at electricity balancing market)
─ Strong rules on non-discrimination especially with regard to incumbent „public wholesaler, public suppliers”, strengthened promotion of new traders
─ New cross border capacities (PCI projects) could help, if managed by transparent access rules (yearly, monthly and daily auctions)
─ Adequate network charges (Supporting network development)
─ Effective unbundling
191st Training Course: Fundamentals of Energy Regulation
May 2 – May 4, 2018 • Nicosia, Cyprus
Lack of real independence of network operators
Decision making practice of network operators in network
access independently from trading interest is essential for
functioning markets
Without clear separation of activities and with „indirect”,
sometimes not identified, but possible commercial influence
of holding companies (owning TSOs and DSOs) could result
in;
– discrimination,
– lack of level playing filed,
– entry barrier for new entrants,
– lack of transparent and predictable congestion management
»» Discovering the discriminative technical/commercial
decisions of the TSOs and DSOs is not easy!
201st Training Course: Fundamentals of Energy Regulation
May 2 – May 4, 2018 • Nicosia, Cyprus
Supply market – as Condition of Effective
Competition (1)
Free capacity is important for the new/alternative suppliers to compete with the incumbent suppliers;
─ Over (generation) capacity (adequate reserve +)
─ Import possibility
─ Capacity release of incumbent (imposed by legal/regulatory framework and/or Regulator
─ Renegotiation of long term Power Purchase Agreements (PPA) with potential stranded cost management
─ Limitation of incumbent company withholding available capacities
─ Market place, where the free capacity could be offered to suppliers (DAM)
211st Training Course: Fundamentals of Energy Regulation
May 2 – May 4, 2018 • Nicosia, Cyprus
Supply market – as Condition of Effective
Competition – Lack of Investment in Generation
Special circumstances which slow down or hinder new
investments:
- during the long lasting market building process the regulatory risk
and merchant risk is relatively high (no liquid wholesale market with
indicative and predictable prices; the financial institutions ask for risk
sharing and risk mitigation, which could freeze the market structure),
- the (affordability led) regulated end-user prices could have an effect
on wholesale and generation prices, which do not „allow” adequate
return on new investment,
- regulatory risk of emerging energy markets (market building process)
- higher risk sensitivity of banks (higher risk premium; cost of capital↑)
- lack of harmonized capacity allocations rules and harmonized
regulatory frameworks in most cases (hindering cross border network
investments)
221st Training Course: Fundamentals of Energy Regulation
May 2 – May 4, 2018 • Nicosia, Cyprus
Special Effects of Financial and Economic Crisis
in Transient Period of Market Building
Consequences of new position of financial institutions in
countries with emerging markets:
Anxious hesitation → Investment programs postponed (newly
calculated financial conditions)
Limited availability of funding → Only the „best” projects will
attract financing
„Best projects” mean in financial language;
– Limited country/political risk: countries with transient
economy → higher risk premium
– Limited regulatory risk: transient period of market building
→ continuous changes → higher risk
Shorter lending period + lower leverage → higher equity
requirements → strong strategic investors + incumbents could
build new projects
231st Training Course: Fundamentals of Energy Regulation
May 2 – May 4, 2018 • Nicosia, Cyprus
Potential regulatory incentives
assisting generation investment
Simplified licensing conditions (harmonized license/permit
application requirements and procedures with other relevant
authorities, and time limit for the licensing period)
Ensure possibility for investors to have indicative market price
signals from the relevant market (Power Exchange, published cost
elements necessary for wholesale market price calculation)
Transparency (require frequent, updated publication):
- TSO’ network availability (both for connecting new capacities +
operation/maintenance and development plans/schedules)
- Non-discriminative cross-border capacity allocation
Allow medium/long term contracts if the market conditions are not
matured enough (risk mitigation)
General reduction of market entry barriers for foreign investors as
well as locals (clear rules for market players and „cheap” procedures)
241st Training Course: Fundamentals of Energy Regulation
May 2 – May 4, 2018 • Nicosia, Cyprus
Market size – as Condition of Effective
Competition
─ Wholesale competition requires several competing generation units
─ Small national market - without strong interconnectors, of which cross-border capacity allow import - cannot be liquid
─ Regional market building could reduce the chance abusing market power of dominant player
─ Small, concentrated national market without available cross-border capacity require strong regulatory control and binding rules on capacity release
251st Training Course: Fundamentals of Energy Regulation
May 2 – May 4, 2018 • Nicosia, Cyprus
Foreseen international tendencies on
market conditions
Some additional circumstances can hinder efficient wholesale competition in the future:
– renewables with increasing ratio could be exempted from
wholesale competition (feed-in tariff system)
– CHP generators (under the new energy efficiency regulation) could
be preferred (must run)
– new nuclear units (if any) foreseen to be invested under long term
PPAs
– part of flexible gas fired units taking part in system regulation
(compensating weather dependent renewable generation)
contracted by system operators
– possible new capacity market/payment (CRM)
→ The wholesale market could further shrink in longer term!
261st Training Course: Fundamentals of Energy Regulation
May 2 – May 4, 2018 • Nicosia, Cyprus
Number of players – as Condition of Effective
Competition
─ Several number of investor on the generation side (different owners of power plants) of the national market is advisable
─ New suppliers, traders could step by step increase their market ratio
─ Foreign traders could be active on the wholesale competition without present on retail market (Regulator could create more simple licensing procedure for wholesale trader without end-users)
─ New players (aggregators, energy communities)
271st Training Course: Fundamentals of Energy Regulation
May 2 – May 4, 2018 • Nicosia, Cyprus
Development of market shares of players
on the Retail Market in Hungary
281st Training Course: Fundamentals of Energy Regulation
May 2 – May 4, 2018 • Nicosia, Cyprus
Market shares of players on the Retail Market
B2B segment in Hungary in 2017
291st Training Course: Fundamentals of Energy Regulation
May 2 – May 4, 2018 • Nicosia, Cyprus
Eligible customers with willingness to switch
supplier – as Condition of Effective Competition
Hungarian experience in the first years of market opening:
─ 18-20% of electricity consumption traded on the free market (through bilateral contracts) in the first year
─ More advantages on eligible consumer side in the first year (5-10% price advantage in 2003), less advantage in the second year (less different between the price of import and local wholesale energy + relative high cross border capacity auction price)
─ Limited available capacity (no successful renegotiation of existing PPAs; one nuclear unit was on outage)
Weak financial incentive of the Hungarian eligible consumers:
– Regulated end-user prices in public segment (compared to market price)
– Relative higher risk on the free market (unstable /continuously developing/ market rules; non-liquid national market)
Eligible consumers entering the
Hungarian free market in 2003 - 2004
4,01%
0,80%
1,88%
0,81%
6,31%
0,04% 0,30% 0,17%
1,88%
0,72%0,05%
0,46%-3,36%
17,26%
3,20%
7,21%
8,01%
16,81%16,76%
20,12%
19,40%
17,52%17,35%17,05%17,01%
9,89%
10,70%
-5,00%
0,00%
5,00%
10,00%
15,00%
20,00%
25,00%
Febr.-
tény
Márc.-
tény
Április-
tény
May June July August Sept Oct Nov Dec Jan Febr MarchDe
ma
nd
Ra
tio
of
Eli
gib
le C
on
su
me
rs E
nte
rin
g i
nto
Fre
e M
ark
et
Demand ration of New Eligible Consumers Entering into Free Market
Total
New Consumption Site:
5 3 2 13 3 51 2 5 2 1 10 2 -35 1
1041 + 1303 + 260 + 611 + 262 + 2050 + 14 + 98 + 55 + 610 + 101 + 202 + 76
GWh/év
1041 + 1303 + 260 + 611 + 262 + 2050 + 14 + 98 + 55 + 610 + 233 - 1106 + 15 + 150
GWh/év
8
311st Training Course: Fundamentals of Energy Regulation
May 2 – May 4, 2018 • Nicosia, Cyprus
Adequate pricing, price signals
– as Condition of Effective Competition (1)
Price trends, price regulation, regulated end-user prices
EU: The EC sector inquiry report highlights the phenomena
of regulated end-user prices acting as a market
distortion, especially for industrial users
Most ERRA members: Hybrid model and regulated
Universal Service Provider (USP) (the regulated end-user
price in the substantial ratio of the retail market
indirect cap for the free market as well)
321st Training Course: Fundamentals of Energy Regulation
May 2 – May 4, 2018 • Nicosia, Cyprus
Potential Consequences of the Disturbances in Regulation
Price cap on end-user prices (not market based);➢ Expenditures on operation, maintenance and development of
networks fail (reduced)
➢ Lack of incentives building new generation units
➢ Poor service quality
➢ Re-scheduled introduction of climate change measures (smart grid, smart meter rollout, energy efficiency assistance)
➢ Lack of adequate renewable support schemes → slowed down investment
Financial support for end-users (outside of vulnerable consumer circle);
➢ Lack of energy saving incentives
➢ Cross subsidy
➢ Hindered competitiveness of the industry (large end-users)
Reduced competences of regulators;➢ Political/regulatory risk premium
➢ Slowed down new investments (generation, network)
331st Training Course: Fundamentals of Energy Regulation
May 2 – May 4, 2018 • Nicosia, Cyprus
Conflict of Regulators regarding potential political influence on end-user prices
How could some Regulators convince politicians not to interfere (distort) network price regulation and allow market based energy prices;– In countries, where the belief in the market has less tradition?
– In countries, where ; the affordability issue is very serious
– Where the wholesale and retail markets are not functioning well?
– Where the end-users (industry) are not competitive with higher energy
prices?
– In countries, where the social welfare is already on very low level with
present energy prices?
– The non-economic (non-price) support schemes for vulnerable
customers is not strong enough?
The political interaction into price regulation has medium/long term effects
which could be in contradiction with other political goals (climate
change measures)!
341st Training Course: Fundamentals of Energy Regulation
May 2 – May 4, 2018 • Nicosia, Cyprus
Potential Regulatory actions supporting the
national and regional market building
─ Empowerment of consumers (targeted information,
supporting end-users’ learning process on selection of
suppliers and on risk management)
─ Supporting active Demand Respond
─ Supporting new Generation investment
─ Supporting network investment (incentive network tariff)
─ Transparent TPA rules and general Transparency
requirements
─ Unbundling requirements and enforcement
─ Clear cross border capacity allocation rules
─ Harmonization of network planning and market rules with
neighbors
351st Training Course: Fundamentals of Energy Regulation
May 2 – May 4, 2018 • Nicosia, Cyprus
Monitoring wholesale and retail markets (if functioning)
Monitoring the different markets:
- Hiring staff for market analysis and monitoring functions
(preferably young economists)
- Cooperating with the Competition Authorities (learning
from them how analyse and evaluate markets)
- Identifying different markets (wholesale, retail, reserve
markets, balancing market,…)
- Creating data reporting requirements, building up data
management system and introducing analytical tools
- Data collection scope and frequency should be adjusted to
the market liquidity (stages of market building)
361st Training Course: Fundamentals of Energy Regulation
May 2 – May 4, 2018 • Nicosia, Cyprus
Monitoring wholesale markets
Analysing market
tendencies on
Websites of
Power Exchanges
371st Training Course: Fundamentals of Energy Regulation
May 2 – May 4, 2018 • Nicosia, Cyprus
Monitoring wholesale markets
Analysing market
tendencies on
Websites of Power
Exchanges and in
published Reports
(Platts, Reuters,…)
381st Training Course: Fundamentals of Energy Regulation
May 2 – May 4, 2018 • Nicosia, Cyprus
Role of Regulators in the Competitive Market
- What are those new regulatory tasks, which
require more training, or knowledge transfer
regarding regulatory support of market building
process?
- What are those regulatory responsibilities targeted
by „The new electricity market arrangement in
Cyprus”, which need future training?
- What are the market monitoring activities, which
you understand important in medium term?
W
THANK YOU
FOR YOUR ATTENTION!
1st Training Course: Fundamentals of Energy Regulation
May 2 – May 4, 2018 • Nicosia, Cyprus
Gábor Szörényi
E-mail: [email protected]
Web: https://erranet.org