BMWK plans new design for the electricity market

Briefing

On 2 August 2024, the Federal Ministry for Economic Affairs and Climate Action of the Federal Republic of Germany (BMWK), under the leadership of Robert Habeck, published an “options paper” with various proposals for a new “electricity market design of the future”. The paper is intended to serve as an initial basis for a discussion within the German government and the political players, stakeholders, federal states and other European countries in order to implement the new design for the electricity market and drive reform.

Background:

The background to the reform is that the European "Green Deal" with the goal of climate neutrality by 2050, which Germany wants to achieve by 2045, can only be achieved through the massive and timely expansion of renewable energies. However, the expansion on the required scale poses major challenges, as the electricity market is currently still geared towards fossil fuels and cannot cope with the fluctuations associated with electricity generation from wind and solar power. The increasing expansion of photovoltaics pushing the grid to its limits, as production and consumption must always be in balance to ensure grid stability, or more precisely at a level of 50 hertz, otherwise there is a risk of a blackout. In this context, electricity storage, flexible demand management and flexible power plants are becoming increasingly necessary as a backup.

Objectives of the planned “electricity market design of the future”

The “Platform for a Climate-Neutral Electricity System” (PKNS) was commissioned by the coalition parties to analyse how these issues can be integrated into the electricity market in the future. Based on the PKNS report, the BMWK has now published a paper (“Electricity market design of the future”) with options, which on the one hand opens the discussion and on the other hand already makes concrete recommendations. The paper is also intended to ensure transparency and a “common understanding” of future opportunities and challenges. According to the options paper, the aim of the planned electricity market design is to “enable and orchestrate the interplay between wind and PV electricity as volume providers and flexible controllable capacities as back-up”. Four key requirements should be met for this: The electricity market design should (1.) efficiently coordinate the use of all capacities, it should (2.) sufficiently safeguard investments in CO2 -free electricity generation and it should (3.) ensure the temporal and (4.) spatial balancing of supply and demand.

To this end, the options paper identifies four main options for action, which are described in more detail below:

Investment framework for renewable energies
Investment framework for controllable capacities
Local signals
Increased flexibility of demand.

The investment framework for renewable energies

The first major field of action deals with the investment framework for renewable energies. The aim is to achieve an 80% share of renewable energies in electricity consumption by 2030. The current “market premium model” (a minimum remuneration offers RE plant operators risk protection) is only authorised under European law until the end of 2026. After that, a new mechanism will be required that is equipped with a repayment mechanism (“claw-back”) in accordance with European requirements for income that exceeds the subsidy requirement.

The options paper provides two generation-dependent and two generation-independent models to guarantee these requirements. In the opinion of the BMWK, the latter could incentivise efficient and system-beneficial plants. The model of a capacity payment with a refinancing contribution that is independent of production corresponds most closely to the measures adopted by the German government as part of the “Growth Initiative” in connection with the 2025 budget. The operator of an EEG plant receives a fixed amount per kilowatt over a longer period of time but must make a refinancing contribution that is independent of production.

Investment framework for controllable capacities in the event of generation bottlenecks

As mentioned above, the varying availability of electricity from photovoltaics and wind is still causing considerable difficulties. A flexible technology mix, for example consisting of power plants, storage facilities and flexible loads, could counteract this. However, the current market environment does not offer sufficient incentives to invest accordingly, which is why a technology-neutral capacity mechanism should be introduced. The BMWK recommends a decentralised capacity market with a central component (KKM). Decentralisation should enable the integration of future, innovative developments and the central component should guarantee long-term investment security. The options paper announces that the German government will decide on this in autumn 2024. The prerequisite is that the provisions of European state aid law are observed. According to this, a state-subsidised capacity market can only be approved if security of supply cannot already be guaranteed by the free market.

Local signals: How can grid bottlenecks be avoided?

In the past, the location of electricity production was primarily built near load centres. However, the expansion of renewable energies is shifting production to locations where the best yield can be generated from the sun and wind. The transmission grid must therefore be able to transport the electricity over ever greater distances. In addition, the risk of grid bottlenecks must be counteracted. In addition to improved “redispatch measures” (curtailment of plants to ensure grid stability) and local signals, which are supplemented by active grid-oriented control options, an accelerated grid expansion must therefore be pursued.

Increased flexibility of demand: What does a flexible electricity market mean?

Flexible electricity demand and an equally flexible electricity supply can also be an important mechanism for preventing grid and generation bottlenecks. Electricity consumers would have to organise their demand so that it is at its highest during hours of particularly high electricity production from renewable energies and correspondingly low when generation is low. This could be supported using price signals. High prices can therefore result in low demand, while demand increases when prices are favourable. According to the BMWK, this shift in demand could also balance out the fluctuating prices for electricity and thus improve the market values for renewable energies. However, this requires dynamic tariff models and intelligent metering systems (smart meters), which are not yet sufficiently widespread.

Outlook

A system change in the German electricity market is unavoidable if the EU and Germany are to realise their ambitious path to climate neutrality. The options paper has presented the four key mechanisms that the BMWK believes are fundamentally suitable for contributing to a climate-neutral Germany. The energy associations also largely welcome the proposed reform of the electricity market design. However, not every option is equally welcomed: the German Association of Energy and Water Industries (BDEW) fears that the capacity market will be too complex because it is to be organised both centrally and locally. “The effort and complexity must be kept within manageable limits,” demanded Managing Director Kerstin Andreae. The Bundesverband Neue Energiewirtschaft e.V. (BNE) also suggests testing the feasibility of some options in real-world laboratories before introducing them, as “the paper also reveals preferences on the part of the BMWK that would foreseeably have more disadvantages than advantages.” The BEE also believes that the paper only partially solves the challenges and warns of the risks of some of the proposals listed.

The task now is to find out how the individual options can be optimally combined to create a safe, affordable and sustainable system. It is particularly important to actively involve all stakeholders so that practical solutions can be developed.

In this context, please also read our Power Play Insight EnWG amendment: Changes for energy supply companies and grid and system operators.

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