The Reform of European Electricity Markets Has Begun

In response to soaring energy prices, the European Commission initially implemented a package of measures it called the “toolbox,” reflecting the limited ambitions of these measures. A response widely considered insufficient by many Member States, starting with France.

In practical terms, it involved allowing Member States to implement the most appropriate responses at the national level: support for the most modest households, tax reductions on electricity, aid to small businesses, etc.

The persistence of high electricity prices finally led the European Commission to undertake a comprehensive reflection by first defining the objectives to be achieved.

This market organization reform aims at four main objectives:

1. 1. Reduce the dependency of wholesale electricity prices on the rise in fossil fuel prices (and natural gas in particular)
   2. Accelerate the deployment of renewable energies to aim for a 42.5% share in Europe’s energy consumption by 2030
   3. Provide responses to protect consumers in the event of a sharp price increase (such as during the winter of 2022/2023, for example)
   4. More broadly improve consumer protection

One discussion point was quickly dismissed: the reform of the price-setting method in the market. Commonly called the “merit order,” it operates on a simple principle: running production means from the cheapest to the most expensive based on their marginal production cost. The last production means called to cover consumption sets the price for all operating plants. This pricing method was deemed effective to ensure the short-term balance of electrical systems. However, the long-term issue sparked numerous discussions.

On October 17, 2023, a key milestone was reached with a European Council agreement on the general guidelines of this future reform of European electricity markets.

First, this reform aims to stabilize electricity markets in the long term. To achieve this, two main tools are favored by Europe.

Power purchase agreements (PPAs) will need to be encouraged by Member States. PPAs are private contracts between a producer and a consumer that can be signed long-term, providing price visibility to both parties. Member States will need to remove any legal obstacles and disproportionate procedures or fees. They may also establish a public guarantee to support the development of such contracts. In France, industrial clients will, for example, have the opportunity to enter into long-term contracts with producers. Industrial clients can thus stabilize a portion of their electricity budget over 5, 10, or 15 years, significantly reducing their exposure to a future surge in wholesale prices.

Already in force to support certain renewable sectors, contracts for difference (CfD) will become mandatory for all new production means receiving public support. CfDs are based on a simple principle: they guarantee a target price for the producer, facilitating their investment decision. If wholesale prices are below this target price, the public authorities pay the difference to the producer. However, these CfDs also offer security to the public authorities. Indeed, when wholesale electricity prices exceed the target price, producers pay the difference to the respective states. In the event of a price surge, public authorities are assured of recovering part of this increase. Importantly, they can use these financial inflows to support consumers in case of rising prices.

The section on consumer protection contains several emblematic measures:

• Suppliers will be required to systematically offer multiple options (fixed price, dynamic price, etc.), while the possibility of using multiple suppliers for a single site was discussed. For example, a company could subscribe to a fixed-price offer for part of its electricity supply, but also, in parallel, to a dynamic price offer, for example for charging electric vehicles;
• All customers will be able to participate in energy sharing programs (e.g., within energy communities) with the use, sharing, and storage of self-produced energy;
• Electricity suppliers will need to strengthen their price hedging to protect customers from excessive price variations, while a supplier of last resort will be designated to take over the customers of a bankrupt supplier;
• Public authorities may temporarily apply regulated prices to households and SMEs, and these prices may be below wholesale prices, providing a new way to protect consumers from a future price explosion.

The agreement also allows states to continue taxing the excess profits generated by electricity companies during periods of high prices. The proceeds from this taxation can then be used to directly help customers, including industrial clients, reduce the impact of rising bills.