Written evidence from Ofgem (LEU0031)

Summary of key points

• Great Britain (GB) has gas interconnection to the island of Ireland, Belgium and the Netherlands and electricity interconnection to Ireland, France and the Netherlands (with several other projects under development).
• The benefits of cooperating with our European neighbours and making use of cross border markets include greater efficiency of energy trading; and a reduced need to procure capacity domestically (which would be at a significantly higher cost).
• GB has played an important role in shaping the arrangements for gas and electricity trading in Europe, ensuring that it delivers the best outcomes possible for GB consumers. There is a risk of divergence in market arrangements if our ability to do so in future is reduced, which could lead to less efficient trading.
• Continuation of gas and power flows between GB and Northern Ireland is essential for gas security of supply for Northern Irish consumers. 

About Ofgem

1. Ofgem is the Office of Gas and Electricity Markets. We are a non-ministerial government department and an independent National Regulatory Authority, recognised by EU Directives. Our principal objective when carrying out our functions is to protect the interests of existing and future electricity and gas consumers. We do this in a variety of ways including:

• promoting value for money;
• promoting security of supply and sustainability, for present and future generations of consumers, domestic and industrial users;
• the supervision and development of markets and competition; and
• regulation and the delivery of government schemes.

2. We work effectively with, but are independent of, government, the energy industry and other stakeholders within a legal framework determined by the UK government and the European Union.

Our response

3. This response focusses on the issues raised by the Committee that fall within our remit.  We have not, therefore, commented on issues relating to the technology mix; wider environmental policy; access to knowledge and skills; or carbon targets. Our response focusses on factual information regarding:

• The current levels of cross border interconnection in both gas and electricity and the proposed pipeline of future projects;
• details on the current levels of cross border trading of gas and power;
• market surveillance;
• Ofgem’s role and influence in Europe; and
• potential issues relevant to the island of Ireland.  

4. We have also provided the Committee with the ‘National Report to the European Commission’ which details how each of the many European energy policy requirements are met in GB. The report shows the volume of requirements that exist and the extent to which they’re embedded within the GB regulatory regime.

5. We would be pleased to provide the Committee with further information if it would be useful.

Current and future levels of interconnection

The rationale for interconnection and the European energy market

6. GB is interconnected to many of our neighbouring countries and both gas and electricity flow across borders. This allows imports when prices are higher in GB (because, for example, demand is high or it is cold) and providing an opportunity for our generators to sell excess power and gas to the continent. This cross border energy market:

• enables the system to be used more efficiently (by making best use of the network and the generation connected to it);
• enhances competition (by bringing more buyers and sellers to market to trade); and
• enhances security of supply (by reducing the reliance on one source or type of generation).

It ultimately provides mutual benefits for the countries involved as the more efficient the trading arrangements with our neighbours, the more efficient the flows between the countries and the higher the overall benefits to society.

Gas interconnection

7. GB has a diverse range of sources of gas supply. In addition to domestic production, imports from Norwegian fields and Liquid Natural Gas importation capacity, GB imports gas from continental Europe via two interconnectors: the Interconnector UK (IUK) and Bacton Balgzand Line (BBL) pipelines. BBL is a single direction pipeline[1] connecting GB to the Netherlands and delivers only physical imports. IUK connects GB to Belgium and is able to physically flow gas in both directions.  We are also well connected across the Irish Sea and we currently supply Northern Ireland and the Republic of Ireland with approximately 97% of their combined gas needs[2]. The table below summarises the current levels of gas interconnection with the EU. 

Table 1:  Gas interconnection projects

Electricity interconnection

8. Electricity will continue to play a role in the future energy mix and there is a persistent difference in the price of power between GB and continental Europe (with prices in GB normally being higher).  Coupled with the impact of measures that we’ve put in place to balance risks for electricity interconnector developers, this has led to a large pipeline of projects with up to 13.6GW of projects currently under consideration.  The table below shows the current and future pipeline of electricity interconnector projects.

9. The business models for these projects depend on them being able to facilitate cross border trading of electricity.  They therefore rely on rules that facilitate efficient cross border trading and that are stable and predictable.  It should also be noted the majority of projects are joint ventures between multiple companies and that 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.

Table 2:  Present and future electricity interconnector projects

Cross border gas and electricity trading

10. Just as trading gas and electricity within GB is an ongoing activity, so too is cross border trading. Parties who wish to flow gas and electricity between countries purchase the right to do so from the owners of the interconnectors through a series of capacity auctions (with products covering periods from several years ahead of the time the energy will be delivered to hours before delivery). 

11. It should be noted that the rules governing these auctions, and cross border trade more generally, are complex and are set out in EU Regulations. National Regulators play a key role in ensuring that the rules operate in the interest of consumers, and we work closely with our neighbouring Regulators to deliver benefits for GB consumers. If energy cannot flow effectively across borders, whether due to explicit barriers (such as tariffs) or implicit barriers (such as more complex market rules or uncertainty), then the benefits from cross border trading, which GB currently enjoys, might be expected to decline.

Gas trading

12. Gas is traded in daily contracts in GB and our interconnectors connect our highly liquid gas market with the two most liquid markets on the continent Europe (Netherlands and Belgium) with prices closely correlated across all three. These market places have large numbers of buyers and sellers of gas matching their physical and commercial needs to make efficient use of the network and supply resources.

13. The table below shows historical gas supply into GB – broken down by source since 2013. It can be seen that the gas interconnectors delivered a significant but varying amount of gas in each of the last three years as the market responds to changes in conditions. In addition, Norway, as well as having pipelines to the continent, supplies large volumes of gas to GB. Our liquid market makes us an attractive destination for these imports.

Table 3: Historical gas supply by source

Source: National Grid

Electricity trading

14. Electricity is traded in half hourly blocks and it is usual that the interconnectors flow in different directions at different times of the day, driven by price differences between different markets (for instance, as demand peaks at different times in different countries).  However, in general, GB typically imports electricity from France and the Netherlands and exports to Northern Ireland and the Republic of Ireland. 

15. As a result of GB being able to attract imports when they’re required, interconnectors provide a route for spare capacity in neighbouring countries to deliver power for GB consumers. This can provide lower overall cost by making full use of the existing resources in the European network and displacing construction of more domestic capacity at a potentially significant cost.  We have also seen an increase in competition in the generation market as a result of the imports. Interconnectors are also able to compete in the Capacity Market auctions.

Table 4: Imports, exports and net flows (MWh) for these interconnectors in 2015

Cross border market monitoring and surveillance

16. A majority of companies operating in GB also operate in other parts of Europe and the EU. The activities of those companies in this cross border marketplace require appropriate governance to maintain confidence and transparency in the market. It is therefore important that information on market conduct can be shared between Regulators and, if necessary, that coordinated action can be taken to deal with any market abuse. This is the purpose of the EU Regulation on Market Integrity and Transparency (REMIT). 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 with other EU Regulators and with the Agency for the Cooperation of Energy Regulators (ACER), which is essential to ensure we can monitor the market effectively.

The governance of the IEM and GB’s role

17. The European Commission has sought to develop the Internal Energy Market (IEM) for over a decade. This has involved three packages of legislation and various other initiatives.  Generally speaking, 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. 

18. The UK has been a significant driving force in the creation of the IEM and, again speaking generally, its objectives of efficient trade based on competitive markets align with our own objectives. This influence is reflected in the roles we play within the institutions that are central to the IEM.

Agency for the Cooperation of Energy Regulators (ACER)

19. Ofgem is one of the largest and most influential regulators within ACER, which is an EU Agency established under EU legislation. ACER plays an important role in shaping the detailed rules of the IEM and has some oversight of its implementation. Ofgem has held the chairmanship of the ACER Board of Regulators since the inception of the Agency.

20. When the UK ceases to be an EU Member State, Ofgem will lose its membership of ACER and, as a result, its right to participate in the Board of Regulators and in the technical working groups. Ofgem could seek formal Observer status as a third country although this would depend on the extent to which the UK agreed to apply the acquis of EU energy legislation. Informal observer status at working level may be possible via a Memorandum of Understanding between Ofgem and ACER (e.g. Norway can now “informally” participate to working groups).

Council of European Energy Regulators (CEER)

21. CEER is a voluntary organisation for European regulators and was established to promote the development of efficient and competitive internal markets for electricity and gas.  Membership is open to EU and EEA Member States. EU accession countries as well as EFTA and Energy Community contracting parties may be Observers within CEER. When the UK ceases to be an EU Member State, Ofgem would likely only retain full membership of CEER if the UK is a member of the EEA. Observer status may be possible in other circumstances.

Other engagement

22. There are also a range of regional initiatives that sit outside of the EU framework, such as involvement with our neighbours in developing the resources in the North Sea (for example via the North Sea Countries Offshore Grid Initiative). Ofgem would likely be able to continue to participate in such initiatives after the UK leaves the EU.

The impact on Ireland

23. Ofgem has for years worked closely with our regulatory colleagues in both Northern Ireland and the Republic of Ireland, through joint oversight of the interconnections across the Irish Sea. Our co-operation has brought about benefits for consumers on both sides.

24. The creation of the all-island market for electricity (Single Electricity Market or SEM) has brought about benefits of a larger market by facilitating more competition and better outcomes for all Irish and Northern Irish consumers and increasing efficiency of trading between GB and the SEM. Further benefits and efficiencies are expected from the implementation of the enhanced Irish wholesale market (Integrated Single Energy Market, or iSEM), which has been forecast to be worth €2.7 billion. It will be important for the UK to understand the impacts of the Brexit negotiations on the Irish markets.

25. As noted above, GB supplies approximately 97% of the gas consumed in Ireland through the interconnection across the Irish Sea. It is therefore essential that we continue to have the relevant market and regulatory arrangements in place that allow gas to continue to flow to the island of Ireland without significant regulatory or financial barriers.

19 December 2016