In reaction to the agreement reached by EU Member States’ energy ministers on Monday 19 December, the European Federation of Energy Traders (EFET) warned that the European Union’s mechanism to cap wholesale gas prices in the event of excessive increases could worsen the energy crisis.
Called the ‘market correction mechanism’ (MCM), the instrument finally agreed by Member States is to establish a dynamic cap on orders placed to trade TTF derivatives - the standard price indicator on European gas markets - and derivatives linked to other virtual trading points (see EUROPE 13087/1).
The cap will correspond to the reference price of liquefied natural gas (LNG) on the world markets plus €35/MWh.
However, it will only be activated in the event of episodes of excessive gas prices (in the EU), as opposed to being representative of world prices.
Two conditions must therefore be met simultaneously: - the price of ‘month-ahead’ TTF derivatives exceeds €180/MWh for three working days; - this same price is €35 higher than a global reference price for LNG over the same period.
The text agreed by the ministers also includes a series of clauses aimed at guaranteeing the EU’s security of energy supply, the maintenance of intra-EU gas flows and the stability of energy derivatives markets.
Insufficient safeguards?
Despite these safeguards, EFET believes that the mechanism “could weaken our security of supply” as a price cap “undermines the trust in European gas markets” and “will reduce the incentive to save energy”.
In particular, the organisation points out that existing LNG contracts could be renegotiated - through activatable clauses, if an index or benchmark changes - and cargoes diverted to other countries at prices above the cap.
Changes in market behaviour?
EFET believes that it is wrong to assume that the cap will not be a problem because it will only be triggered in extreme circumstances or can be quickly suspended.
“The mere possibility that a cap is triggered will alter the way parties behave (…) Even were the cap removed at a later date, the market would not return to what it was before”, according to a press release issued by the organisation.
In their view, the “uncertainty” and “risk” associated with the mechanism provide an incentive to set prices at the cap level.
EFET also believes that a cap will encourage volumes to move away from front-month contracts, “reducing liquidity, increasing price volatility and creating the risk of a self-fulfilling prophecy”.
It added: “This could be done through a contract other than the TTF front-month, by using a trading venue outside Europe (such as the National Balancing Point in the UK) or by conducting bilateral transactions on the OTC markets.
Although OTC transactions are excluded from the scope of application of the mechanism, the regulation provides for the possibility of including them at a later stage.
The text also instructs the European Securities and Markets Authority (ESMA) and the Agency for the Cooperation of Energy Regulators (ACER) to assess whether the exclusion of these transactions “has led to significant shifts in the trading of TTF derivatives to over-the-counter markets, endangering the stability of financial or energy markets”.
They will also have to analyse whether the mechanism has led to a significant decrease in TTF derivatives trading within the EU and a significant shift to trading venues outside the EU.
These reports must be submitted to the European Commission by 1 March 2023 at the latest and be preceded by a preliminary assessment by 23 January, i.e. a few weeks before the entry into force of the regulation (1 February) and the application of the mechanism itself (15 February).
Sceptical experts
For Simone Tagliapietra, a researcher on EU climate and energy policy at the Bruegel think tank, and Camille Defard, a researcher on European energy policy at the Jacques Delors Institute, it is not easy to predict the final impact of the mechanism, given all the safeguards.
However, both stress that this is not a “silver bullet” to the energy crisis.
Like Lion Hirth, professor of energy policy at the Hertie School, they recommend focusing on measures to reduce gas consumption.
See the EFET press release: https://aeur.eu/f/4rk (Original version in French by Damien Genicot)