Integrating Renewable Energies in Europe After the COP21

April 27, 2016 | 00:00
Integrating Renewable Energies in Europe After the COP21
Integrating Renewable Energies in Europe After the COP21
Simone Mori is Head of European Affairs at Enel Group, the multinational energy company with its roots in Italy. Mori has a degree in physics and an MBA and has held several positions at Enel over the years. In an interview conducted by journalist Lorenzo Colantoni he discusses Europe's energy market in the post-Paris era: "It is like drinking coffee with fork and knife: these are proper tools, but designed to do something different to what we need to do now."

Lorenzo Colantoni: For the first time, the result of the COP21 seems to have provided a stable political framework to invest in low-carbon technologies. In the past it was often said that the lack of this, and in general of stability in institutional trust towards renewables, kept the energy industry from adequately investing in the sector. Has this change truly happened, and has the COP21 given enough trust to make long-term investments in accordance to a low-carbon future?

Simone Mori: Yes, I think so. As Enel, we have given a positive evaluation to the COP, which obtained what it realistically could. The restrictions were, in my opinion, absolutely respectable and legitimate. It is quite wrong to think that there are “good” and “bad” people in this global political debate. Having an agreement is also per se a significant achievement: the COP defines a vector, a tendency, and it does so very clearly. It establishes reasonable rules and mechanisms to verify the compliance.
Simone Mori, Head of European Affairs at Enel Group.
Simone Mori, Head of European Affairs at Enel Group.


A greater result is, however, having achieved the consciousness that the major economies, in particular the emerging ones, will not be willing to stop the growth because of an agreement, however great the legal constraint is. The agreement will work depending on how much technologies will make it reasonably cheap for economic growth, or even having positive effects on this. Indeed, the people who have witnessed both the preparation to Copenhagen and to Paris will surely recognize a fundamental difference in the debate. From 2009 to 2015, which is a period of just six years, the costs for the technologies needed to reach the targets have become a fraction of what they used to be. A target which many believed to be impossible, extremely expensive and which they forecasted would have divided the world into winners and losers, revealed to be anything but this. In other words, these technologies are not only less expensive now, but are cheap enough even to sustain basic energy production, in particular for emerging countries. This is an amazing development. Take into consideration what happened in major regions, as in Latin America: in competitive and technologically neutral tenders, wind farms systematically won over traditional sources, simply because they are cheaper. Clearly, this completely transforms the global scenario.

We have to recognize the significant political merit of Europe in the COP, but what has substantially changed is the technological framework. This transformation showed everyone that certain targets are within reach: the 20% for 2020 seemed at the time to be very ambitious, even impossible to achieve. 27% for 2030 is now considered business as usual.

How does the Paris agreement relate to these changes then?

Well, no one truly knows how the evolution of technologies will continue from now to 2030 or 2040. We need therefore rolling governance mechanisms, which will allow a constant read of the evolution of the context, to adapt the level of ambition in accordance to these changes. The EU ETS is a perfect example for this: it did not work because its target was not able to readjust.

I believe then that the Paris and the INDC approach are particularly smart: a country makes a proposal, and then it does what it thinks it is best to achieve it on the basis of its specific features, its technological know-how, its natural resources, its economic system, the structure of its governance. So two levels are taken into consideration at the same time: the global and the local, offering the possibility to engage in the energy transition also to economies which need a boost in transparency and accountability, and have limited knowledge of how their future will look like.

I think this is an intelligent approach and a great chance for the whole industrial sector as well, in particular for Europe, which is more advanced considering energy. This is true also for us. As a global company, we work on all continents; when we face a tender in a country with low regulatory ranking, the risk is indeed drastically reduced if, instead of having a contract just with the local utility company, this is included in a national program which has been approved by the UN and put under the umbrella of the country’s INDC.

Such cases show a change in technological development which is going in the right direction, that of a competitively efficient process, obtained through even selection mechanisms, and which creates a global and equal competition ground among big industrial players in renewable energies. This is the future: renewables are more and more the first choice of countries with high growth rates because the investment time is shorter, the manageability of the investment process is greater, but mostly because alternative technologies are increasingly cheaper.

How will it be possible to face such a strong and constant change in the energy sector, where planning requires decades and many still believe in huge, long term projects?

If we consider our own industrial plan, one of the proposals we addressed to the markets and which received the greatest appreciation, was not to get involved in projects whose time to be done is greater than two years. Doing the opposite would be clearly a wrong choice: if we consider the big European utility companies which are facing the toughest times, this is mostly because they are stuck in major projects with incredibly long realization times, and so a highly protracted payback period. This is an old model, which had its legitimacy in the past but now, in a time of enormous change in technological patterns, its associated risk is excessive. Not by chance, considering the installed capacity we believe that mature economies do not have much space for vast projects, such as a nuclear plants, at least in this phase. The exceptions could be represented by countries which have a significant need to reduce dependence from fossil fuels with high concentration of CO2 emissions, as in the case of China.

Generally speaking and even considering the specificity of the energy sector, great projects on long time spans represent a path that seems in contradiction with the most common technological and market trends. Of course, we cannot expect to instantly shut down all traditional plants. We are then facing a Schumpeterian [1] transition: there is a business and technology paradigm covering but not completely erasing another. In other sectors these “evolution waves” have not cancelled what was already there, but they limited its space for growth. As in all Schumpeterian phenomena, you build the future, but manage the present.

Let’s focus on Europe now. Considering the post COP21 and the ambitions of Europe, do you believe that the EU line of action fits the pledges made in Paris? Furthermore, do you believe that Europe already has the adequate tools to reach the objectives?

Considering the objectives I am optimist, and I think that the 27% on renewables will actually turn out to be something more. There is a strong consensus on this. Regarding the tools, my opinion is that we need new ones, also to oppose the paradoxical situation we are now facing. Europe, the very region where the energy transition started, has now radically stopped this process, while the rest of the world is increasing its investments. Even if I believe this is a short term fluctuation, there is a structural issue in the framework of the European energy system. I think that this is perfectly summarized in the definition the EU uses when market design crosses renewables: integration. In other words, integrating renewables in an already existing market. However, as renewables will represent the large majority of investments in electrical capacity in Europe and the rest of the world for the upcoming years, it is conceptually wrong to think that the focus should be on integrating these resources in a market which has not been designed to include them.

The aim should not be to integrate renewables in the system: rather, it should be to build a system which will be the best to favour investments which will represent almost the totality of what will be planned in the future. Of course we have also a problem of integration, in cases such as balancing the market, facing gate closures or in creating a market which will grant flexibility to renewables in real time. These problems exist, but are technicalities for specialists. The real issue for me is that the current market was designed twenty years ago in a centralized way. It was thought with an offer curve and a demand curve defined by a central market buyer, and based on the method of prioritizing energy sources on the basis of system marginal price. However, this worked when a marginal price existed. If 80% of the market does not have it, as in the case of renewables whose operating costs are almost non-existent, this solution does not function. It is like drinking coffee with fork and knife: these are proper tools, but designed to do something different to what we need to do now.

Thus, I think that the short term, spot energy market on which the European regulatory orthodoxy has been built is substantially obsolete. It is a method which has no use in promoting the development of renewables: they are not able to compete on the same conditions with conventional plants, because it is not possible to equate technologies which have significantly low fixed costs and high variable costs, such as fossil sources, with others which have consistent fixed costs, and no variable costs at all. It is a sort of self-flagellation the European consumers do not deserve, as they will end up paying more for a market risk which is easily avoidable. How? Through long term contracts, which will allow a true competition between renewable and fossil sources on the basis of average and not marginal costs.

So, it is necessary to focus on projects which need a short time to be done, because of the continuous technological changes, but whose remuneration is calculated on a long time span, to take into consideration the average costs and not the marginal, which has no use for renewables. How do you imagine then such a system?

We already have some elements, while others still need to be developed. In order to discuss the best energy system for the EU we should answer a question: why are the prices for renewables established by tenders throughout the world so low when compared to Europe? This is the case of Chile, Egypt, Morocco, South Africa. Why? There are three reasons. We cannot do much about the first one: if there is more sun or more wind, and a windmill will work for 3500 hours instead of 1800, it is possible to accept less money to cover the investment. Without variable costs, the more the plant works, the earlier it will pay the investment back.

The second point concerns the geographical extension of projects, usually larger outside Europe. We can do something about this: there are no reasons why the European renewable energy policy should be developed individually in Malta, Estonia, Italy, rather than on the European level. We should promote the best European projects, developing wind energy where there is more wind and solar where the sun shines. There are no conceptual reasons not to do this, only political and administrative obstacles. Indeed, today Europe is not able to subsidize solar energy projects in Greece with Danish money, or to use Greek money for offshore wind plants in Germany. Nonetheless, this is the path to follow. There are many ways for compensation and mutualism through, for instance, European funding. We pushed for a more aggressive ETS mechanism than the Market Stability Reserve. By strengthening this tool and increasing its cash flow, we could have used part of it in a pan-European way, or at least regional and not national, to promote the most efficient projects. This would have had an extraordinary impact from the point of view of the incentives Member States will have to cooperate. This would have truly been the Energy Union.

The third element regards regulatory stability. If someone bids for a fifteen years fixed price, he is able to offer a lower price than for a component which will be combined with a volatile market value, determined by prices over which he has no control and no ability to manage. It is not the renewables investor’s job to edge on the gas price for the next ten years. He does not even have the tools to do that.

Regarding this last point, the Commission guidelines state that these tenders should envisage a premium, in relation to the market price. This is wrong, because it exposes the investment to a variable which the investor does not control. This increases the price risk, the economic requirements and thus the overall costs. We believe that these tenders should be fully focused on the remuneration of the energy component, eventually considering capacity as well. We also think that it is necessary to have tools able to grant liquidity and a long term vision to all investments, including those on conventional sources, because this is what will allow us to verify the actual convergence of costs between traditional and renewable sources.

Briefly, the elements for this new system are: expanding the geographical resource and increasing the regulatory stability on the basis of long term contracts, which should not be correlated to the spot variations of the market.

We are talking about a European market: does it exist? I am referring here in particular to the lack of interconnections.

Well, we need to make the infrastructures and there are still a few problems about this, in particular regarding who will pay for them. When you develop a merchant interconnection there are no problems: there is a business plan and a reasonable certainty that the investment will pay back. But these are exceptional cases. Interconnections are complex projects, requiring long times to be developed and involving a great risk on an infrastructure, which will be fully functioning only in 8-10 years, when the market will have significantly evolved. And which maybe will not need it as it did when it was planned.

Even if these infrastructures are required, I do not think that the barriers to the Energy Union are physical. Its limits are different and they come from a fragmentation of several regulatory mechanisms, some even quite small. This is why I brought up the example of our idea to have regional tenders for renewables: the situation of Europe will not be changed by an ACER decision, but by three or four countries working ensemble, through their regulators and TSOs getting together to write the same tender notices, the same grid access and dispatch rules.

We need to overcome a few jealousies. It makes no sense not to integrate dispatch and balancing mechanisms, because no major effort is required: we just need to develop a software, not to build grids. In many cases we already have the software on the two sides of the network, and we just need to harmonize some parameters. This does not happen as Member States, institutions and administrations are jealous of their own prerequisites.

We need to go beyond this, because it makes no economic sense that a country, such as Italy, is not able to support a neighbor which has issues in the flexibility of its grid, when this can be done in a perfectly efficient way. In addition, if we want to achieve the renewables target we have already mentioned, we will either need an infinite back up, or simply a system in which the interaction capability and the availability of reserves are very fast, very advanced and very integrated.

We have a transition, a system which should change and complicated relations among Europe as a whole, the European institutions and the Member States. How will all of this evolve?

I think that the situation is very interesting today, as the diagnosis is the same for everyone: not even the most convinced secessionist or supporters of the Brexit believe that the energy systems should be just national. Everyone thinks that there is a strong advantage in integrating national systems.

The Vice President Šefčovič and Commissioner Cañete did well in raising awareness on this. The first in particular has stated from the very beginning that the Energy Union is a mechanism to improve the functioning of the internal market, before being a leverage tool towards external suppliers. This is because if the internal market works well, we are stronger anyway.

The diagnosis is shared, but then there are specific cases. Poland is one of them: the country has national issues with the use of lignite, which we can consider reasonable if there is a willingness to manage them as a transitional phase. These problems become more complicated to handle if we think that an entire continent could be blocked in its transition because 1 country out of 28 thinks it has no interest or capability to adjust the evolution of its energy sector. And this happens to also damage its own economy, as highlighted by the VP Šefčovič himself; the north of Poland is one of the areas with the greatest potential for wind in Europe, and it is where a very interesting wind manufacturing industry is being born now

The solution is then more Europe and more coherent rules on fundamental points. I do not think that it will be necessary to make everything uniform, as in the case of remuneration mechanisms for national capacity markets. It is clear that there is no such thing as a one size fits all solution. A system which has a 80% share in nuclear and hydro power is not the same as one which relies for the 80% of its generation on gas. It is right to take these differences into consideration.

Other situations ask for uniformity though, and in particular for a connected development of new European projects. We cannot change the world in one day, but we need to start somewhere. Our example is, again, that of the tenders: while the dream of European wide tenders is expected to remain just that for quite a long time, maybe the idea to launch regional ones is different and we will be able to achieve that reasonably soon.
 

1. Joseph Alois Schumpeter, a 20th century economist, theorized the idea of “creative destruction”, in which industry is subject to a constant evolution, consisting in the incessant destruction of the old patterns and creation of the new at the same time.

Top image: Secretary-General of the United Nations Ban Ki-moon addresses delegates at the signing ceremony of the COP21 Climate Change Agreement on April 22, 2016, at the United Nations General Assembly Hall in New York. Photo: Rick Bajornas for the UN.

Image Simone Mori. Courtesy Enel Group.
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