MEMORANDUM SUBMITTED BY THE DEPARTMENT
OF TRADE AND INDUSTRY
1. This Memorandum addresses two related
issues arising from the oral evidence by the Minister of State
for Energy and Competitiveness in Europe on 14 February. First,
it summarises the issues that have given concern in relation to
the operation of the interconnector, as requested by the Chair
of the Committee (see Q.15). Second, it outlines the European
Commission's locus in the regulation of the interconnector, as
well as the other regulatory arrangements, in response to the
Minister's undertaking (answer to Q. 21).
Concerns with the operation of the interconnector
2. The Government is concerned that the
operation of the interconnector does not always appear to have
reflected market fundamentals. In particular, there is a history
of spare capacity—the interconnector has never, (since commissioning
in 1998), operated above 75 per cent capacity; there are occasionally
perverse flows, when gas appears to have flowed from a higher
price to a lower price; and, despite the interconnector's significance
to the rest of the gas market in Great Britain ("GB"),
its operation has not been transparent. Some of these problems
appear to be linked. The Department suspects that inappropriate
operational rules, supported by inflexible corporate governance,
have contributed to these problems.
3. Some examples of specific problems follows:
(a) Corporate governance and rules
— the interconnector rules make its
operation more inflexible than technically necessary;
— the direction of flow on a specific
day is set up to seven days in advance;
— the direction cannot change more
than three times in a week—though this would be less of
a constraint if there were improved arrangements for trading inventory
in the interconnector;
— the threshold for switching from
import to export is significantly lower than for switching the
other way;
— export capacity and import capacity
are bundled—it should be possible to trade them independently;
— changes to the rules require unanimous
agreement amongst interconnector shippers, with the effect that
desirable changes can be blocked too easily.
— it appears that some companies may
have exploited their ability to influence the direction of flow
of the interconnector, for example by nominating in their preferred
direction in excess of their contracted flows (and reducing the
nomination on the actual flow day).
— the interconnector's operation (including
for example the procedures which determine the direction of flow)
has not been transparent;
— the market (unlike interconnector
shippers) does not know about a change of direction until after
it has happened;
— information on expected flows is
non-existent;
— and information on actual flows (which
appears at best 6-10 weeks in arrears) is such as to be of limited
value to the market.
— capacity ownership in the interconnector
changes regularly (and information about current ownership has
not been readily available to the market—an issue about
transparency);
— there are a number of factors (rules,
practices and opacity) that impede or restrict the access of third
parties to spare capacity;
— it appears that some capacity owners
have been unwilling to sell spare capacity.
4. The Government's concerns are illustrated
by the events of 15 January 2001, when the interconnector switched
from import mode (ie into GB) to export. There was no obvious
cause for the switch in terms of market fundamentals; below average
temperatures in Great Britain were contributing to high gas demand,
and the GB spot price had been at 31p/therm, compared with 30.5p/therm
at Zeebrugge. The switch to export mode, at a time of high demand,
had the following harmful effects:
— price spikes in the GB wholesale
gas market, from 31p/therm to nearly 50p/therm, which increased
costs for gas market players (and may have increased perceived
risk for the future);
— the price spikes also increased gas
purchase costs to those industrial/commercial consumers with exposure
to the spot price;
— because of the physical supply tightness
(reflecting a high level of temperature-related demand), commercially
interruptible gas supplies to a number of industrial/commercial
consumers were interrupted;
— some of those consumers were gas-fired
power stations, bringing a knock-on effect in the electricity
market—higher pool prices, and an increased risk of power
cuts (though no power cuts actually happened).
It appears that the switch to export mode, with
the harmful real consequences in the GB gas and electricity markets
summarised above, reflected in part the way the interconnector
rules work, rather than market fundamentals.
The regulation of the interconnector
5. The main competition authority in relation
to the interconnector is the European Commission. This is because
the interconnector directly affects trade between Member States,
so that it is subject to Articles 81 and 82 (formerly 85 and 86)
of the Treaty establishing the European Community. Following public
consultation, the Commission issued a comfort letter to Interconnector
(UK) Ltd, in relation to Article 85(1) (as it then was) of the
Treaty, on 17 May 1995. In the subsequent press release (1 June
1995) the Commission confirmed that it had cleared the arrangements
between the interconnector shippers for the construction and operation
of the interconnector.
6. The interconnector is subject to UK general
competition legislation, notably the Competition Act 1998 (which
is enforced by the Office of Fair Trading). The arrangements for
the sectoral regulation of the interconnector have reflected the
European Commission's established locus as the principal competition
regulator.
The main provisions are:
— an exemption (subject to conditions)
from the requirement for a Public Gas Transporter licence for
Interconnector (UK) Ltd (SI 1998 No 1779);
— provision for statutory negotiated
third party access (with appeal to the Secretary of State) under
the "Gas Directive Implementation Regulations" (SI 2000
No 1937).
7. The Belgian authorities have a locus.
However, they have not legislated for the regulation of the interconnector
under Belgian domestic law. They have taken the view that the
interconnector is already subject to the Gas Transit Directive
(Directive 91/296/EC).
8. There is also an inter-Governmental Treaty
with Belgium, signed in December 1997 (see Cm 3943, April 1998).
It is not yet formally in force, because awaiting ratification
in Belgium. However, under Article 17(2) both Governments agreed
to apply the Agreement provisionally from the date of its signature.
The Agreement sets out how the two Governments will work together
on certain matters affecting the interconnector, but it does not
confer any powers over third parties.
26 February 2001
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