Chapter 5: Energy trade
Value of energy trading
50.According to the Nuclear Industry Association (NIA), “Continued trade between the UK and the EU in electricity and gas will be vital for both parties, as will access to respective energy markets.”80 Oil & Gas UK told us: “The UK Government should understand that any increase in the barriers to trade within the internal energy market will diminish our energy security as a country.”81
51.The Institution of Chemical Engineers et al noted that the UK was a net importer of gas, and argued that this trend was likely to continue: “It is therefore vital that the UK maintains connected [sic] to a robust global trading market in natural gas in order to ensure a diverse and resilient supply.”82
52.UK-EU electricity trading is particularly beneficial in facilitating renewable electricity generation. The Aldersgate Group contended: “Electricity will be the cornerstone of the UK’s future trading relationship because … the decarbonisation of the EU and UK electricity grids through generation from renewable sources which are variable, can be made more efficient through crossborder trade.”83
Internal Energy Market
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The Internal Energy Market (IEM) in gas and electricity has a legal basis under Article 194 TFEU. It was designed to increase efficiency by introducing competitive forces into energy markets across the EU, thereby reducing prices and improving services to consumers; and to achieve greater interconnection of markets, which would reduce the need for reserve generation capacity, thus further reducing costs. Members of the IEM include EU Member States, plus Norway, Iceland and Liechtenstein as parties to the European Economic Area (EEA) agreement. There are no participants from outside the EEA. |
Source: Treaty on the Functioning of the European Union ; HM Government, Review of the Balance of Competences between the United Kingdom and the European Union: Energy Report (2014) p 42: https://www.gov.uk/government/uploads/system/uploads/attachment_data/file/332794/2902398_BoC_Energy_acc.pdf [accessed 29 November 2017]
Scope and effect
53.The Internal Energy Market (IEM) is outlined in Box 2. The Aldersgate Group commented that “there is broad consensus that membership of the IEM is beneficial to UK energy consumers, because harmonisation of markets improves efficiency and allows access to balancing services, which reduce costs”.84 Ofgem agreed that “the greater integration which the IEM has created has promoted efficiency in trading power and gas through more robust price signals, increasing diversity of resources and improving our security of supply”.85 Phil Sheppard, Director of UK Systems Operation at National Grid, argued that the IEM “is leading to cheaper prices for consumers”.86
54.National Grid, citing analysis completed before the referendum, told us: “If the UK is to be excluded from the IEM, and if no other policy measures were put in place, there is a risk to the UK economy of up to £500m per annum by the early 2020s due to the loss of benefits of harmonised trading arrangements with the EU.”87 According to the Aldersgate Group, “While alternative systems could be developed to facilitate cross-border trading, it seems inevitable that these would be less able to deliver security of supply, lowest prices and liquidity that the IEM currently delivers.”88
55.Witnesses highlighted a number of particularly valuable features of the IEM. One of these was market coupling, by which IEM participants use a shared algorithm to arrange cross-border electricity trades. The Aldersgate Group told us: “Market coupling is currently estimated to be worth £100m/year to the UK because, through interconnectors, it provides trading efficiencies which match supply and demand efficiently and thus lower intermarket and transaction costs.”89 Energy UK argued that GB operators could be excluded from market coupling post-Brexit, “as there are no provisions in the texts for ‘third countries’”.90 This was borne out by His Excellency Jean-Christophe Füeg, Head of International Energy Affairs at the Swiss Federal Office of Energy, who told us that Switzerland was excluded from market coupling,91 and as a result “trade between Switzerland and the rest of Europe is handled in a suboptimal way”.92
56.Another IEM benefit is information exchange. Ofgem told us:
“The REMIT Regulation provides Ofgem with access to data about market participants’ trading behaviour, which enables us to more effectively monitor the market. In the absence of the REMIT Regulation, we would need to seek alternative arrangements to access this data and to facilitate information sharing.”93
Energy UK also supported the maintenance of “a dedicated energy market integrity framework such as REMIT”,94 while Mr Sheppard stated that if Regulations on market transparency were to fall away, “we would expect Ofgem to replace them, because visibility for trading across the interconnectors and within the UK is very important for keeping prices liquid and reducing the cost to consumers”.95
57.Furthermore, Exxon Mobil noted the value of a ‘carve out’ from the Markets in Financial Instruments Directive (MiFID),96 which exempts certain gas transactions from having to comply with financial regulation:
“If, after Brexit, the UK is deemed as a third country then continued UK based trading of gas may not benefit from this carve out … Where a company has operations in both the UK and the EU it would be required to comply with these multiple financial regulatory regimes, adding complexity, cost and potential conflict to transacting business.”97
Associated legislation
58.Continuing participation in the IEM might, however, come at a price, and the British Ceramic Confederation was clear that “the UK must avoid having broader EU energy and climate legislation imposed as a consequence of maintaining non-discriminatory access to the IEM”.98 SSE and the Energy Intensive Users Group (EIUG) agreed.99
59.Asked whether the UK would have to comply with EU standards in order to access the IEM, Malcolm Keay, Senior Research Fellow at the Oxford Institute for Energy Studies, answered:
“I do not think that we will have to. Countries such as Russia, for instance, export power to the European Union, but they do not necessarily have to take on the same obligations. Indeed, I would argue that there might be a case for the UK having more flexibility, because the market structures that suit you are very much dependent on the composition of your generating fleet, the geography and so on.”100
60.Conversely, Green Alliance told us: “Access to the IEM implies adopting the rules that govern the internal energy market and accepting the jurisdiction of the European Court of Justice.”101 Georgina Wright, Research Assistant and Co-ordinator, Europe, at Chatham House, made a similar point:
“The EU has made clear in its negotiating principles that, in a future free trade agreement between the UK and EU, there would be ‘a level playing field in terms of competition and State Aid’ and that it ‘must encompass safeguards against unfair competitive advantages’. That assumes that standards would go beyond strictly energy and environment and could incorporate other standards, such as those on market and competition.”102
61.Energy UK agreed that rules on State aid in particular were likely to stay in place: “Realistically, whatever new trading relationship the UK has with the EU, there will be some requirements similar to existing EU State Aid rules.”103 But they also felt that “there could be space to reform and be creative on how to support energy projects with environmental, social and economic values”. Citizens Advice, in contrast, argued that “while State Aid rules have clearly limited the discretion of British politicians, they have usually done so in ways which have been beneficial for UK energy consumers”.104 EDF Energy told us: “We will welcome clarity over State Aid rules and the institutional arrangements for their application.”105
Future participation
62.None of our witnesses expressed a desire to leave the IEM. Green Alliance stated: “The UK should seek to retain full access to the Internal Energy Market”;106 New Nuclear Watch Europe (NNWE) argued that “The top priority in the negotiations is to keep the UK inside the EU Internal Energy Market”;107 and Exxon Mobil told us that “the UK’s interests would be best served by remaining part of the IEM”.108 EEF and UK Steel pointed out that “the UK is on track to implement initiatives under the Third Energy Package that require investment in areas such as new trading platforms and improved regional cooperation. This would be a wasted investment should the UK not participate in the IEM post-Brexit.”109
63.Energy UK, however, drew attention to Norway, which, as a non-EU participant in the IEM, “is required to implement most EU energy and environmental legislation, without being represented in the EU Council of Ministers and European Parliament”.110 As a result, they asserted: “If full participation in the IEM is not accompanied by an acceptable level of influence, the UK will have to review the situation and if deemed necessary leave the IEM if the pros are outweighed by the cons.”111 SSE, EEF and UK Steel, the Energy Institute and EDF Energy all agreed.112
64.The Minister informed us that “our top priority is to be as near as possible to the current arrangements … Where there is such mutuality of interest I do not believe it is beyond the wit of those involved to work this out very quickly.”113 He concluded: “It is our belief that there will be arrangements very comparable with the IEM, and we have picked up nothing to the contrary.”
65.SSE questioned the feasibility of the Government’s approach, identifying the challenge of “marrying the competing interests of retaining the benefits of the IEM with its own ‘red-lines’”.114 RenewableUK went further: “The Government’s stance on the single market makes it unlikely that the UK could retain full membership of the Internal Energy Market”.115 Centrica pointed out that “the IEM is subject to the European Court of Justice … Until we have further clarity around the acceptability of the Government’s proposed dispute resolution body to Europe … it is not possible to know whether the UK will remain an IEM participant on current terms.”116
66.RWE concluded: “The question as the whether the UK will be allowed to remain part of the IEM is really a political one.”117
Conclusions: Internal Energy Market
67.There is strong support across the energy industry for the UK to continue to participate in the Internal Energy Market (IEM) post-Brexit. We urge the Government to seek this outcome.
68.However, the Government’s negotiating position—in particular its intention to leave the Single Market and its rejection of any enduring role for the Court of Justice of the European Union (CJEU)—places significant political and institutional constraints on the UK’s ability to remain in the IEM.
69.It appears that the Government’s intention is to replicate current energy arrangements post-Brexit, but given the challenges outlined above we call on the Government to clarify its post-Brexit energy policy in the event that the UK no longer participates in the IEM.
70.In the course of negotiations, the Government must clarify the extent to which the UK will be required to continue to comply with EU energy, environment and competition legislation in order to continue trading energy with Member States.
Interconnectors
Current levels of interconnection and the benefit case
71.As the Energy Institute reminded us, “While the UK may be leaving the EU in political terms, the pipes and wires that connect us remain and we will continue to be joined in physical terms.”118 Ian Graves, Director of European Business Development at National Grid, explained that “currently, we share 4 gigawatts of electricity interconnection with the EU”.119 Green Alliance noted that these interconnectors “supply roughly 7 per cent of the UK’s electricity”.120 They added: “Another 14 GW of capacity is either under pre-construction or at various planning stages, expected to become operational between 2019 and 2022.”
72.The UK relies still more heavily upon interconnectors in respect of gas. National Grid informed us that, in 2016, the UK “imported 46% of its gas via pipelines from the EU and Norway”.121 The Oxford Institute of Energy Studies explained that the UK was linked to the EU by three pipelines—to Ireland, Belgium and the Netherlands.122 The UK’s existing and planned interconnectors, for both electricity and gas, are illustrated in Figure 1.
Figure 1: Map of UK gas and electricity interconnectors123
73.Witnesses noted many benefits of interconnection with the EU. Welsh Government Cabinet Secretary Lesley Griffiths AM said that “interconnection between member states remains critical to ensure a secure and stable energy system”.124 Green Alliance cited a National Grid estimate that the levels of electricity interconnection planned by 2022 “could meet 35 per cent of the UK’s peak electricity demand, making it an indispensable asset base for providing energy security”.125
74.The UK-EU interconnectors provide energy security benefits for the EU as well as the UK. The Institution of Chemical Engineers et al told us that interconnectors “are of mutual benefit to the UK and the other countries, providing resilience through increased flexibility and diversity of supply”.126 Furthermore, BEIS explained that “electricity from the UK plays a crucial role in helping maintain security of supply in other European countries”.127
75.Another benefit of interconnection, as EEF and UK Steel noted, is that “the UK’s interconnectors allow us to access lower cost supplies”.128 Ofgem agreed: “Interconnectors provide a route for spare capacity in neighbouring countries to deliver power for GB consumers. This can provide lower overall cost.”129 National Grid estimated that “each 1 GW of new electricity interconnector capacity could reduce Britain’s wholesale power prices up to 1–2%”.130
76.In relation to electricity, interconnection also facilitates the expansion of renewable generation, an explicit target in the Government’s Clean Growth Strategy.131 Joseph Dutton, Policy Adviser at E3G, pointed out that “it allows us to develop more electricity production from renewable resources. Interconnectors allow you to balance your system with other countries”.132 Green Alliance agreed that “variable renewable energy will need a much larger dispatch area”,133 and argued: “Electricity interconnectors between the UK and the EU will play a significant role in the coming years, in efficiently managing large renewable energy generation.” According to the Aldersgate Group, “for every additional 1 GW of interconnection … the costs of meeting the UK’s emission reduction target would be reduced by £115 million per year”.134
Brexit challenges to interconnection
77.The Aldersgate Group highlighted that “the regulations that oversee trading through … interconnectors are set through the IEM framework”.135 The Anaerobic Digestion and Bioresources Association (ADBA) suggested that “UK negotiations over energy may destabilise interconnection projects which hinge on shared regulation”.136 Energy UK therefore argued that “it will be important to ensure convergence of market rules is maintained to optimise the use of interconnectors”.137
78.Witnesses also argued that Brexit had introduced commercial uncertainties, which could impede interconnector developments. Ofgem stated: “The majority of projects are joint ventures between multiple companies [and] all require the cooperation of multiple governments, regulators and grid companies to be developed. Uncertainty on the future market arrangements could impact the development of this infrastructure.”138 Centrica told us:
“Current legal arrangement are predicated on (for example) the definition of interconnector points between EU member states and rely on continued UK access to various shared commercial ‘platforms’ established at the EU level. In the gas sector, for example, this includes a common capacity booking platform known as PRISMA. We need to ensure that in the event the UK becomes a third country (outside of the IEM) that existing definitions used in these contracts remain fit for purpose. Any legal uncertainty could drive inefficiency and potentially disrupt trading activity/supply.”139
Conclusions: interconnectors
79.The existing UK-EU interconnectors benefit all parties, by improving energy security, reducing cost, and facilitating decarbonisation.
80.Regulatory convergence on either side of the interconnectors helps to ensure they operate efficiently. The Government should seek to maintain this convergence and the UK’s enduring access to common trading platforms such as PRISMA.
81.We urge the Government to clarify as soon as possible what regulatory regime will apply to UK-EU interconnectors post-Brexit, in order to support the further development of the infrastructure, thus helping to maintain energy security and enabling the UK to meet its decarbonisation and international climate targets.
Trade tariffs
82.RWE claimed that “if UK is outside or partially excluded from IEM, we could see the re-introduction of explicit import and export transmission tariffs on power”.140 EEF and UK Steel added that “should tariffs be imposed post-Brexit, this would result in a lower benefit to UK consumers, impacting the cost of achieving an equivalent level of security of supply”.141
83.The British Ceramic Confederation, on the other hand, believed that gas and electricity were “at lower risk of tariffs than many goods and services. The EU does not currently charge import duties on electricity and although it does have a tariff on imported gas (0.7%) it has chosen not to apply this in practice.”142 The Energy Intensive Users Group concurred: “Neither commodity is at risk of exposure to tariffs of the sort that might affect some manufactured goods in the absence of a comprehensive UK-EU trade agreement.”143
84.Although tariffs on energy itself may be unlikely, the Energy Institute noted that its members “expressed concerns about tariffs being levied on critical goods and services for the energy sector, including those needed in the nuclear supply chain or power generation equipment”.144 They added: “Such new tariffs are likely to create barriers for energy-related foreign direct investment and could lead to increased cost and delays in the construction of energy infrastructure, such as new power generation plants.”
Conclusion: trade tariffs
85.It is unlikely that tariffs will be applied to UK-EU trade in gas and electricity post-Brexit, even in the event of a ‘no deal’ scenario. However, the energy industry could be affected by tariffs on products used in the construction and maintenance of the energy system.
82 Written evidence from Institution of Chemical Engineers et al (BES0023); see also Q 2 (Joseph Dutton).
93 Written evidence from Ofgem (BES0025). REMIT is an EU regulation on wholesale energy market integrity and transparency. It creates a framework for identifying and penalising market abuse within the IEM.
96 Council Directive 2014/65/EU of 15 May 2014 on markets in financial instruments and amending Directive 2002/92/EC and Directive 2011/61/EU (OJ L 173/349, 12 June 2014)
99 Written evidence from SSE (BES0012) and EIUG (BES0014); see also written evidence from EEF and UK Steel (BES0027) and Oil & Gas UK (BES0047).
101 Written evidence from Green Alliance (BES0010); see also written evidence from BCC (BES0008), Chatham House and University of Exeter (BES0044) and E.ON UK plc (BES0046).
105 Written evidence from EDF Energy (BES0033). We consider this issue in more detail in our forthcoming report on Brexit: competition and State aid.
108 Written evidence from Exxon Mobil (BES0032); see also written evidence from ADBA (BES0004), BCC (BES0008), Aldersgate Group (BES0011), Durham Energy Institute (BES0013), EIUG (BES0014), Which? (BES0016), CBI (BES0019), REA (BES0020), Energy UK (BES0024), Statkraft UK Ltd (BES0026), Energy Institute (BES0028), RWE (BES0029), EDF Energy (BES0033), ENGIE (BES0040), National Grid (BES0043), Scottish Government (BES0057), and supplementary written evidence from Chatham House (BES0053).
112 Written evidence from SSE (BES0012), EEF and UK Steel (BES0027), Energy Institute (BES0028) and EDF Energy (BES0033)
115 Written evidence from RenewableUK (BES0030); see also written evidence from REA (BES0020), RWE (BES0029), Centrica (BES0031), ENGIE (BES0040), Oil & Gas UK (BES0047), Q 3 (Georgina Wright).
116 Written evidence from Centrica (BES0031); also written evidence from REA (BES0020), Chatham House and University of Exeter (BES0044), Q 3 (Malcolm Keay).
123 In this map, “planned” interconnectors include those approved by Ofgem as of 11 January 2018. Ofgem, ‘Electricity interconnectors’: https://www.ofgem.gov.uk/electricity/transmission-networks/electricity-interconnectors [accessed 11 January 2018]
124 Written evidence from Welsh Government (BES0056); also written evidence from ADBA (BES0004), Energy UK (BES0024) and Energy Institute (BES0028).
131 HM Government, The Clean Growth Strategy: Leading the way to a low carbon future (October 2017): https://www.gov.uk/government/uploads/system/uploads/attachment_data/file/651916/BEIS_The_Clean_Growth_online_12.10.17.pdf [accessed 16 January 2018]