Germany mulls support for fossil fuel power plants

28 November 2014 | The Energiewende has always involved tough choices. Germany is now facing the next big decision in this ambitious project: How to overhaul its power market for the new paradigm of a predominantly renewable energy supply? As with so many of the steps along the road of the energy transition, the issue is highly complex, the debates heated and the political consequences potentially huge.

28 November 2014 | The Energiewende has always involved tough choices. Germany is now facing the next big decision in this ambitious project: How to overhaul its power market for the new paradigm of a predominantly renewable energy supply? As with so many of the steps along the road of the energy transition, the issue is highly complex, the debates heated and the political consequences potentially huge.
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Since the decision to phase out nuclear power was first taken in 2000 – and then, after a short-lived reversal in 2010, reaffirmed in 2011 – simple but profound questions have been at the heart of the debate: How will Germany keep the lights on? How will the costs of moving to a carbon-free economy be apportioned? Where will the power come from when the wind drops and the skies are overcast?

Finally, that Germany is at risk of missing its own 2020 reduction target for carbon emissions presents another question: What role will coal-fired power plants play in the future of the energy market?

So far, Germany has plenty of coal or gas fired power plants. But the recession in Europe, cheap coal and the rapid expansion of renewables – whose developmentis subsidised and whose running costs are close to zero – has sent power prices plummeting, rendering many conventional plants unprofitable. That has sparked fears of power shortages and even blackouts after Germany’s last nuclear power station is turned off in 2022.

One way to avoid this would be to subsidise fossil fuel-burning facilities. If the price on the open market is too low to keep conventional plants in business, then capacity markets, which would compensate utilities just for keeping them on standby for times of scarcity, could be the answer to ensuring that fluctuating supply from renewable sources doesn’t leave Germany in the dark.

At the other end of the spectrum of debate are proposals to reform the current market system to allow electricity prices to skyrocket in times of looming power shortages. This would allow fossil fuel plants to turn a profit even if they were only fired up a few times each year.

“At the end of the day, the real question is: Are we prepared for a gigantic market experiment in Germany with potentially high volatility?” said Felix Matthes, an energy expert at the Öko-Institut, an ecological think-tank in Berlin, who has his own proposal in the running.

Energy minister Sigmar Gabriel (Social Democrats) has stressed that a decision has not been taken yet. But observers have noted that the government’s “green paper”, published on 31 October and outlining the available options, indicated a certain preference for improving the current market system first. A government white paper with firmer recommendations will provide more details in the spring, and in late 2015, energy minister Gabriel plans to draft a reform bill to come into effect in 2016. Which puts Germany just 18 months away from what could be the deepest reform of its energy market since its liberalisation in 1998.

Despite the importance of energy market reform for its own Energiewende, Germany is not at the forefront in this field. Various countries have either introduced or are debating some form of mechanism to secure supply and guarantee sufficient investment.

Reserve capacity: a make-do measure

The background to this debate is illustrated by a major scare nearly three years ago that left the country wondering if supply shortage might be a threat for the first time since the 1950s. Following the closure of eight nuclear reactors in the wake of the meltdown in Fukushima, supply to the German grid, particularly in the south, tightened in early 2012. On top of that, the gas conflict between Ukraine and Russia led to the temporary shutdown of many gas-fired plants. For some hours, the grid was on the verge of collapse and essential safety margins were repeatedly missed.

In the aftermath, the federal government authorised the German grid regulator, the Bundesnetzagentur, to implement various ad-hoc measures that are still in place, including contracting reserve power stations that can be activated to supply southern Germany’s grid in times of need. For winter 2014 to 2015, 3.1 gigawatts (GW) are reserved in this way. For 2017 to 2018, more than twice that capacity is deemed necessary.

Furthermore, owners must now apply to their grid operator if they want to shut down a fossil plant. If the Bundesnetzagentur decides that would put security of supply at risk, it can force a plant to stay online while compensating only its operating costs. Of the more than 47 larger power blocks operators have earmarked for closure or mothballing, eleven have so far been told they cannot shut down.

Power prices in free-fall

Why are operators eager to close power stations that are – at least from time to time – badly needed? Electricity for delivery in 2015 currently just fetches 3.55 eurocents per kilowatt hour (kWh) - less than half the price of a few years back. For the vast majority of gas power stations and some older coal power plants, this isn’t enough to turn even a marginal profit.

This is partly down to competition from subsidised renewable energy, which contributes 28 percent of German electricity production, according to the German Association of Energy and Water Industries (BDEW). But another factor is unrelated to the Energiewende. Germany’s second biggest utility RWE estimates that 60 percent of the price drop can be attributed weakened demand as a result of the European economic crisis, with only 40 percent due to faster-than-anticipated   expansion of green energy.

Almost all experts agree that the situation is not sustainable. “There is absolutely no question about the basic problem that Germany faces a power-generation shortage in the mid- to long-term,” said Matthes.

Even with almost 10GW of new fossil capacity set to come online by 2020 as a result of investment decisions taken when power prices were higher, the BDEW predicts that total power capacity independent of weather conditions will be reduced by more than 5GW gigawatts by 2020, and continue to fall. How quickly the situation deteriorates to the point where peak consumption of just over 80GW cannot be met depends on a number of factors, but given the current structure of the German energy market, it is looks inevitable within the next decade.

In the Bundestag, even the opposition supports energy market reform in principal, with Green energy expert Oliver Krischer saying the Energiewende must be backed by capacity markets and pressing for faster action on the issue.

The energy-only market

But there is no consensus that capacity markets are the way forward. The green paper broadly discusses two main options: Keep the free market, or introduce payments for fossil fuel plants. In the first instance – dubbed the energy only market 2.0 or EOM 2.0 – investors would need to be assured that the very high power prices to be expected in times of high demand would be politically accepted. Proponents of this approach trust that markets and investors – given the right framework – will be able to predict power shortages and act accordingly.

The idea that the German electricity market just needs minor adjustments has many supporters. The Federation of German Consumer Organisations (VZBV), which speaks for private consumers, currently sees no need for wider reforms. “We still have a lot of overcapacity in the market – burdening consumers with the cost of a capacity mechanism is currently not necessary,” said Ingmar Streese, head of consumer policy at VZBV.

The German Renewable Energy Federation (BEE), which represents the green energy industry, is also staunchly opposed. Doling out money to fossil plants is unnecessary, says chief political lobbyist Carsten Pfeiffer, invoking a vivid metaphor: “The patient is obese, but somehow it gets diagnosed with anorexia and is force-fed public money.”

For a long while, Pfeiffer says, no one would need new fossil power plants in Germany – and in the meantime, energy efficiency and new technology could bring down maximum consumption substantially. “For example, replacing light bulbs with LEDs will bring down peak load by a substantial amount, up to some gigawatts,” he said.

The BEE also fears that support for fossil power plants would result in oversupply and lower market prices for electricity. “The energy market 2.0 has a lot of no-regret measures like enabling more flexibility. We would like to see these introduced, plus perhaps an emergency reserve – but nothing more,” Pfeiffer said.

German industry is also sceptical that a capacity market is immediately necessary. Governments would be prone to make mistakes when implementing complex capacity markets, said Carsten Rolle, head of the Federation of German Industries' (BDI) energy and climate policy department. "And there is a risk they could overload it with additional political targets." The Association of German Chambers of Industry and Commerce (DIHK) has also opposed subsidising power plants.

Still, German industry voices have changed their tone considerably over the last year and no longer fiercely reject the idea of capacity markets on any terms.

"We do acknowledge that politicians would like to have a safety option for the electricity market" Rolle said. He added that "EOM 2.0 reforms plus a reserve market could be an option for the time being" and that the government should make clear if and on what terms it plans to introduce a fully fledged capacity market as "in the long run, reality has to show whether power stations can be financed by a reformed EOM. If not, we recommend a decentralised capacity mechanism that does not discriminate any technology and is compatible to other solutions in Europe because it also makes little sense to have half of the power stations in a reserve market."

Capacity markets have lots of detractors. But they also have plenty of supporters. Most notably, the German electricity sector’s two most powerful lobby groups, which have joined forces on the issue. The BDEW, where almost all owners of fossil power plants are organised, supports a model developed by the VKU, the German Association of Local Utilities.

Decentralised capacity markets

The VKU and BDEW favour a “decentralised capacity market”. This would basically be a mandatory market where power providers must buy capacity certificates. When capacity is scarce, their price would rise, supporting investment in new power plants. The VKU’s CEO Hans-Joachim Reck says this would be the most efficient solution to the problem of dwindling capacity in Germany. “The market will decide the price of security of supply. This ensures that at times of sufficient capacity, prices will be very low.” Reck says that the decentralised capacity market would make it easier for investors to anticipate the need for capacity because it gives supply security a separate price.

A particular concern for Reck is combined heat and power generation (CHP). He says that without help this expensive technology will not be able to compete in the market. “It is environmentally friendly and the federal government has set a high target for the expansion of CHP. But without a capacity mechanism, investment will dry up completely.” The case of CHP is illustrative of the deep implications of market reform: the decision will impact the entire composition of the energy market in Germany, producing winners and losers.

State welfare for fossil fuel plants

Trade unions fear their members may end up the losers as fossil fuel plants shut down. On 8 October, according to the service union Verdi, 30,000 protesters took to the streets. Their motto: “Besser, wenn man Reserven hat” (it’s better to have reserves). Verdi’s chairman Frank Bsirske said a third of the 60,000 jobs in Germany’s fossil power industry could be at risk without capacity markets.

A fully fledged capacity mechanism that doles out money to all power stations is mentioned in the green paper, but highly unlikely. The ministry argues that such a broad support scheme would be counterproductive to the aim of an increasingly flexible energy supply and national climate policy goals. Minister Gabriel even ridiculed the idea of a general subsidy earlier this year as “Hartz IV for power stations”, referring to Germany’s basic social welfare programme.

For the four German biggest energy providers E.ON, RWE, Vattenfall and EnBW, who own most of the fossil plants in Germany, the situation is delicate. They plan to close numerous stations and some run heavy losses. A capacity market would be a welcome boost to their balance sheets. But it would also be contrary to the free markets they have always argued for.

Two-speed capacity markets

Vattenfall, which is owned by the Swedish state, says that capacity markets are not necessary at least until 2020. E.ON, meanwhile, which plans to shut down 5GW of capacity in Germany by 2015 because many are “deep in the red,” insists that any mechanism should be free of discrimination – and hence also include older power plants.

“This would ensure that capacity is remunerated in the most efficient way,” said Nina Scholz who oversees regulatory affairs for E.ON. She says E.ON would welcome the EOM 2.0 reforms, and that power plants that are in the emergency reserve of the Bundesnetzagentur should receive more funds, better reflecting actual costs. “But any capacity market that is discriminatory and is designed to prefer certain technologies will be highly inefficient and costly,” she said.

Scholz was referring to the last serious contender in the battle for the future of the German electricity market design. The proposal by Felix Matthes’ Öko-Institut, and financed by the environmental NGO WWF, would see capacity auctioned off in two different segments. Older power stations that are not environmentally friendly can only bid for payments up to four years, whereas new green and flexible capacity – for example from modern gas power stations – would bid for capacity payments of up to 15 years.

The green paper acknowledges that a focused capacity market could support flexible and clean capacity – but as in the case of fully fledged capacity markets, it would be problematic for the government to decide on the overall volume of capacity needed. Matthes admits that, in theory, such a system would be slightly less efficient and perhaps a little more costly than a general, discrimination-free capacity mechanism. “But the huge advantage is that it supports an energy infrastructure that is coherent with the long-term goals of the Energiewende,” he said.

While the green paper addresses mostly technical issues, it also acknowledges that ultimately, the decision is deeply political: "If society and politics are not prepared to evolve the electricity market towards scarcity prices, we need a capacity market.”

A political decision

Hans-Joachim Reck from VKU, who is opposed to Matthes’ model, can at least agree with him on this point. “At the end of the day, we all have to realise that the future market design will be a strongly political decision that cannot be made with just economics in mind.”

So, which model will finish in front at the end of the political race? Lobbyists and sources close to the ministry interviewed by CLEW said it looks like the EOM 2.0 plus maybe a small reserve capacity market is likely to be the winner. Many doubt that Gabriel, a possible challenger for Merkel’s chancellorship, will risk introducing an encompassing capacity mechanism and provoking a public outcry over costs just in time for the next general election in 2017.

On the other hand, he is likely to face mounting pressure from trade unions in the SPD’s stronghold of North Rhine-Westphalia, an industrial heartland and home to many older power stations. Between them, municipalities in the state also hold more shares in RWE than any other party. And much will also depend on the stance of German industry, which is signalling more support for some form of capacity market.

Gabriel, however, emphasises that he has not yet made up his mind. “The green paper is not a decision, but it is supposed to provide the basis for the decision that will be taken in 2015,” he said.


Jakob Schlandt is a freelance contributor to the Clean Energy Wire. He also writes for Europolitics and BIZZ energy today and his own blog

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