Energy Spain Newsflash 5202022 84729 AM

The configuration of a marginalist market in the electricity sector has brought significant benefits for all market players, as it has encouraged the entry of new renewable generation installations, gradually replacing part of the fossil fuel installations. Despite the foregoing, the price of electricity has remained closely correlated to the evolution of the price of natural gas, whose market has been recently subject to the greatest supply tensions and price escalation of the last few decades.

The European institutions have been sensitive to this situation, publishing several reports and communications in which they have echoed this circumstance. In particular, they have recognised the singularity of the Iberian market, characterised by a low level of interconnection.

With the aim of limiting the impact that the escalation of natural gas prices is having on the wholesale electricity market, RD-Law 10/2022 of 13 May (RD-law) was published on 14 May.

MECHANISM TO REDUCE THE WHOLESALE PRICE OF ELECTRICITY

Purpose. The RD-law establishes a mechanism adjusting the production cost of marginal fossil fuel technologies, which has the effect of reducing the offers made by such technologies on the market, with the consequent reduction in the wholesale market's matching price.

Scope of application. The new adjustment mechanism shall apply to the following marginal fossil fuel power plants located in mainland Spain which are registered in the market on the day on which the bid matching of the daily market takes place:

• Installations that produce electricity using a combined cycle of natural gas.
• Installations that use conventional generation technologies by producing electricity using coal as fuel.
• Installations that produce electricity using cogeneration plants provided that they are not under any regulated remuneration frameworks included in article 14 of the Electricity Sector Law. The adjustment mechanism shall also apply to cogeneration facilities that use natural gas as its primary fuel covered by the applicable Portuguese law.

The owners of any of the aforementioned facilities declaring bilateral contracts with physical delivery shall not be subject to the adjustment for the amounts declared in those bilateral contracts. The mechanism shall only apply to those energy units offered before the market operator.

Duration. The adjustment mechanism set forth by this RD-law shall be in force during 12 months counting from the date of publication in the Spanish Official Gazette of a Ministerial Order containing the European Commission's authorisation for the mechanism. Under no circumstances shall the mechanism remain in force after 31 May 2023.

Determination of the unitary adjustment amount. The amount of the adjustment shall be calculated in accordance with the formula included in article 3 of the RD-law, which takes into account (i) the effective daily price of gas in the spot market; and (ii) a reference gas price, which shall vary over time: the first six months it shall correspond to 40 €/MWh, increasing 5 €/MWh per month after that, until it reaches the amount of 70 €/MWh on the last month.

The adjustment shall be taken into account within the procedure to set the price in the daily Iberian electricity market and participation in the intraday market and in the adjustment services of the electricity system (servicios de ajuste del sistema). Moreover, it shall also affect the price-setting process applicable to purchase units by the market operator in accordance with the terms of article 9 of the RD-law.

LIQUIDATION OF THE ADJUSTMENT MECHANISM

Execution. Liquidations shall be performed in accordance with the terms set forth in article 7 of the RD-law and shall ultimately be borne by the power purchase units participating in the market as follows:

• The total cost or income associated with the liquidation of the adjustment mechanism by the market operator in each negotiation period shall entail a payment obligation or a collection right, which shall be distributed by the market operator among all the power purchase units of the Iberian electricity market agent's on a pro rata basis to the electricity scheduled for that period in their final trading session after the continuous market.
• The cost or income associated with the liquidation of the adjustment mechanism performed by the system operator in each hourly period shall entail a payment obligation or a collection right, which shall be distributed by the system operator among all the power purchase units of the Iberian electricity market's participants in their respective zone in proportion to their net electrical output (energía medida en barras de central) for that period.

Exceptionally, and while the adjustment mechanism is still in force, the congestion pricing obtained in the monthly capacity allocation auctions in the interconnection with France shall be applied to reduce the total cost of the adjustment calculated in accordance with the RD-law.

Responsible subjects for the liquidation of the adjustment mechanism. The market operator and the system operator are the subjects in charge of performing the liquidations of the adjustment mechanisms in their respective areas.

Exclusions. The following are excluded from the obligation to pay for the adjust mechanism:

• The energy storage bid units (unidades de oferta de almacenamiento), including batteries and pumping units (consumo de bombeo);
• The auxiliary generation services bid units (unidades de oferta de servicios auxiliares de generación); and
• Energy associated to power purchase units that have contracted forward hedging instruments prior to 26 April 2022, excluding those forward hedging instruments and renewals, price revisions or extensions associated to the abovementioned hedging instruments signed after said date. This exemption shall not apply to the liquidation of the adjustment mechanism performed by the system operator in each hourly period. The National Commission on Markets and Competition (CNMC) shall be responsible whilst the adjustment mechanism is still in force for checking, analysing and supervising the information corresponding to said forward hedging instruments.
  

Provision of guarantees. The market operator shall demand the market agents who own power purchase units to issue economic guarantees under the terms of article 10 of the RD-law in order to ensure the economic obligations that may arise from the liquidation of the adjustment mechanism. Failure to provide such guarantees shall prevent the participation of these units in the different electricity production markets.

Consequences of non-compliance. The RD-law provides for, among others, measures such as the execution of the economic guarantees mentioned above or the suspension by the market operator of the participation of those owners of power purchase units that fail to comply with the obligation to pay the cost of the adjustment mechanism.

Supervision of the adjustment mechanism in Spain. The market operator and the Spanish electricity system's operator, within the scope of their respective functions and in relation to the Spanish market participants, shall notify the CNMC of any actions of the market participants contrary to the correct functioning of the pricing scheme (esquema de fijación de precio) in the Iberian daily market, as well as the correct functioning of the adjustment mechanism, to assess whether such actions may constitute an punishable infringement.

The RD-law incorporates 6 additional provisions and 4 transitional provisions, among which:

• The potential temporary or definitive suspension of the adjustment mechanism provided for in the RD-law, subject to the prior approval by the Portuguese government, by means of a resolution of the Council of Ministers (Consejo de Ministros) when justified by exceptional market circumstances or general interest reasons (2nd AP). This regime may also be suspended only for coal-fired plants (3rd AP).
• RD-law also sets out a mandate in order to make the necessary amendments to the methodology for calculating the voluntary price for small consumers to introduce a reference to forward market prices, incorporating a price component based on a basket of forward market products and another price component based on the daily and intraday market (5th AP).

Finally, the RD-law includes 11 final provisions related to its validity as well as to the amendment of other regulations, including most notably:

• Amendment of article 7 of the Royal Decree-law 17/2021, of 14 September, on urgent measures to mitigate the impact of the escalation of natural gas prices in the retail gas and electricity markets, relating to the calculation of the reduction in the excess remuneration of the electricity market caused by the high price of natural gas on international markets (2nd FP).
• Amendment of the Electricity Sector Law, allowing the revision of the remuneration parameters related to assets granted with specific remuneration regime until 28 February of the first year of each regulatory period (5th FP).
• Amendment of Royal Decree 413/2014, of 6 June, which regulates the activity of electricity production from renewable energy sources, cogeneration and waste. A new amendment is introduced in relation to the adjustment mechanism for deviations in the market price which shall be applicable to the energy generated in 2023 and subsequent years, which incorporates references to annual, quarterly and monthly forward market products. In the case of small capacity facilities, the adjustment value for deviations in the market price shall only be calculated considering the annual average price of the daily and intraday market for each year (6th FP).