Obligation to sell electricity on power exchange―no time for sudden moves

What is an ‘obligo’―a brief history

‘Obligo’ was introduced in Poland for the first time in 2010. It is an obligation to sell electricity on a power exchange―in Poland's case it is Towarowa Giełda Energii. ‘Obligo’ became effective on 1 January 2011. Its introduction was directly related to the withdrawal from the system of bilateral agreements, PPAs―long-term contracts for the sale of power and electricity[1]. The obligation to trade energy on the exchange was aimed to increase the transparency of price setting and limit unjustified revenues. But let us start from the beginning.

PPAs were introduced to increase revenues for generators and to help modernise the power industry in the 1990s. PPAs were terminated after Poland's accession to the European Union―the European Commission considered them to be unauthorised state aid resulting in high wholesale energy prices. Indeed, for years most energy sales (from 50% to 80%) took place through PPAs[2], prices were high and the role of the power exchange in energy trading was limited. In return for the termination of PPAs in 2008, generators received a different type of support in the form of a statutory system of payments for the so-called stranded costs. However, the change in the way energy was traded did not result in an automatic shift to power exchange or other trading platforms. Prices continued to be high. Therefore, in 2010 it was decided to introduce an obligation. The idea was to promote competitive electricity sales. For generators benefiting from compensations for stranded costs, the obligation was 100%, for other generators it was 15%. In subsequent years, the level of an obligation changed only slightly.  

In 2018, after a significant increase in wholesale prices in Poland, combined with a visible decrease in trading on the energy exchange, the discussion about the need to increase the liquidity of the exchange heated up. It was decided to extend the 100% ‘obligo’ to all generators. However, exceptions were introduced―among others, contracts concluded until the end of 2018 were excluded from the new rules. As a result, this exemption that had been in place since the introduction of the obligation in 2011 meant that the actual level of energy sales through the exchange has never covered the entire production volume of generators. In 2019, according to the Polish energy regulator, the theoretical 100% obligation actually amounted to 46%.[3] By comparison, when the obligation was introduced only 4.2% of transactions were made on the exchange.

 

Why an ‘obligo’ is needed?

The obligation to sell electricity on the exchange is not an end in itself. The point is that price of energy should be shaped in a competitive market and should reflect real demand and supply, and not, for example, result from transactions concluded within vertically integrated groups. A competitive price on the wholesale market is not only a carrier of information about how much electricity costs. It is also the basis for calculating prices for consumers and a reference point for support mechanisms e.g. for RES and for many agreements concluded on the energy market (e.g. contracts for differences, PPA type agreements). The exchange is the most transparent form of price determination. ‘Obligo’ is particularly needed in markets that are not fully competitive, and this is the case of Poland. The mechanism is often used in the EU in the gas market, traditionally more monopolised than the electricity market.

Is the Polish market competitive?

The Polish electricity generators' market is highly consolidated, dominated by large players: PGE, Enea and Tauron. Only these three companies have over 60% of the installed capacity and are responsible for 70% of the electricity introduced into the grid. In recent years, the number of players has decreased. In 2018, EDF withdrew from Poland and its assets were acquired by PGE. ZE PAK also reduced its market share, and Orlen recently acquired Energa. This has slowed the long-term downward trend of concentration ratios calculated for the Polish market, reducing competition.

 

This is not the end of consolidation processes in Poland―the separation of coal assets to a single entity is being prepared in connection with changes in PGE and Tauron. Competition in the market is decreasing, which means that the ‘obligo’ is still needed.

Will lifting the obligation raise prices?

Industry and other consumers will not only be burdened by the cost of the new capacity fee, record CO2 prices and the effects of lockdown, they will also pay for this experiment. We already have the highest wholesale electricity prices in the region. Lifting the obligation will exacerbate this problem. It should also be remembered that the 100% obligation was introduced 2.5 years ago as a remedy for the then rapidly rising electricity prices.

The idea of getting rid of an obligation comes from government dialogue with mining unions. The abolition of an ‘obligo’ is a sophisticated form of support for mining: it will increase energy prices, and this will translate into changes in the so-called merit order. As a result, more expensive coal units will enter the system, which due to their high costs currently work a small number of hours and lose revenue because of this. We will burn more coal. And we will emit more CO2.

Such support may have short legs, however. After all, the coal market is global. The coal mined in Poland is more expensive than that imported from abroad.

What is more, the impact assessment indicates that to the law abolishing the obligation is to reduce electricity imports to Poland. This sounds good in theory, but it is a mistaken assumption. Rather, the rise in electricity prices will contribute to an increase in imports―because energy flows from a cheaper country to a more expensive one, and here it is and will be more expensive. Paradoxically, it is thanks to imports that prices in Poland are lower than they could be. 

Conclusions

The energy sector in Poland is on a curve. Revenues are falling, and electricity generation in coal-fired power stations is making losses. Attempts to inject money at any price, for this is the idea of abolishing the obligation to sell electricity on the power exchange, at the expense of electricity consumers and of industry fighting the effects of a pandemic, is a very risky move. The costs of such unexpected and unjustified moves will be borne by the economy and society. Whether the obligation should be 100% or 50% can be debated, but there can be no doubt that this is not the time to abolish it altogether.

Authors: Dr. Joanna Maćkowiak-Pandera, Dr. Aleksandra Gawlikowska-Fyk
Date of publication: 24 February 2021