Events & Publications

OIES system thinking approach for EU electricity market design

In the context of the ongoing debate about EU electricity market design the OIES is proposing an adaptive approach, informed by system thinking and based on evolutionary change, trying to properly address all the known relevant issues of the sector

The physical and market integration of renewable energy into the power system without causing disruptions is key issue currently faced by the electricity markets. The European electricity market design needs to evolve coherently with the main long term climate-energy targets set at Community level, while ensuring long-term resource adequacy and short-term operational security.

The OIES has recently added its own view and contribution to the debate on the energy policy trilemma of addressing climate change, security of supply, and affordability/competitiveness based on a holistic approach to deal with the challenge of the electricity market design.

‘System Thinking’

A system is “a set of elements or parts that is coherently organized and interconnected in a pattern or structure and that produces a characteristic set of behaviours, often classified as its ‘function’ or ‘purpose’”.

“A system is more than the sum of its parts. Many of the interconnections in systems operate through the flow of information. The least obvious part of the system, its function or purpose, is often the most crucial determinant of the system’s behavior. System structure is the source of system behaviour. System behaviour reveals itself as a series of events over time”[1].

OIES diagnosis on the existing debate on the European electricity market design is based on the system thinking theory, and, according to this theory, the authors developed a design approach to addresses uncertainties in technology development and consumer preference within the European governance landscape.  Although the need of a holistic perspective where the interactions between the parts of the systems are understood and clearly addressed have become progressively evident to all the market actors, the EU level and country level policies and actions are still fragmented and an effective coordination is lacking.

A module-and-level based representation

The first goal of the paper is to shed some light in the jungle of the European power market design terminology concepts, using a module-and-level based representation of coordination mechanisms that currently exist in the power sector (Figure 1).

Figure 1. A module-and-level representation of EU power sector coordination mechanisms

Source: OIES Paper: EL 26. Electricity market design for a decarbonised future: an integrated approach.

This representation is used to systematically identify those “misalignments” – i. e . undesirable interaction between two coordination modules – impairing the existing market design. The misalignments between modules at the country level are the ones between RES integration and wholesale power market, between RES integration and retail market and between RES integration and network regulation. Misalignments between country and EU-level modules are the ones between RES integration and market coupling and between RES integration and EU ETS.

OIES electricity market design reform

According to OIES literature review and assessment. market design proposals: are rarely comprehensive, tend to correct only a very limited number of the identified misalignments, and few of them take an evolutionary view.

OIES approach is based on the necessity to evaluate the joint performance of all market design modules in order to avoid system sub-optimisation. Furthermore, all the identified misalignments among coordination modules have to be addressed, although maybe not necessarily at the same time. They propose sequential steps (Table 1), where the earlier reforms may create the conditions required for later reforms, and also allowing for some flexibility, with possible adjustments whenever more information becomes available.

Table 1. OIES recommended sequential steps for electricity market design reform

Source: OIES Paper: EL 26. Electricity market design for a decarbonised future: an integrated approach.

Policy objectives

The presence of multiple objectives of power sector policy has been a relevant issue in the past years both at EU and country level, and leaded to overlapping between different measures and, at least partially, to jeopardize the climate-energy efforts. Assuming the decarbonisation as the common denominator of the possible objectives, the interdependence between decarbonisation with other policy goals should be perceived as being dynamic and open to change. In this way other policy goals can be seen as process boundary conditions, which need to be managed so that the decarbonisation objective is not undermined.

Market coordination versus government

The paper also addresses the issue of the role of market-based coordination and of government policy instruments in meeting policy objectives, finally arguing that a hybrid form of governance with better coordination between policy instruments and market competition is required. Government policy instruments should be present across the power value chain, supporting investment in innovative technologies, while market competition should increase the efficiency of the adopted innovative technologies. In this way the electricity market design and evolution would benefit from best of both worlds.

This hybrid governance approach needs alignment at two levels between governance components to enable innovation for long-term transition toward a specific goal:

  • Macro level – long-term coordination: selection and implementation of policy instruments through participatory deliberation, market competition, and innovation in protected niches, in order to advance vision-compatible technologies through the innovation chain.
  • Micro level – shorter-term coordination: between technology-push policy instruments and innovation processes, between demand-pull policy instruments and market competition, in order to design and implement policy instruments that provide the appropriate support for niche-protected innovation and market-driven innovation.

Something to reflect upon

The OIES contribution to the debate about electricity market designs in the EU proposes an adaptive design based on system thinking that need to be assessed in a more quantitative way with the simulation of the interaction between coordination modules. The fitness-for-purpose of the existing common design, the appropriateness of energy policy, and the coordination between the energy policy and market design are assessed, trying to merge together the best features of all the existing instruments and alternatives.

The paper discusses and addresses all the current and prospective electricity market design issues that have clearly surfaced in the past years, and that can’t no more be neglected or ignored. The extreme and increasing complexity of the electricity system is calling for a more coordinate and comprehensive approach than what has been done till now, and the OIES analysis can be a good starting point for the EU and member countries.

[1] “Thinking in Systems: A Primer,” by Donella H. Meadows, Published in 2008 by Chelsea Green Publishing, White River Junction, Vermont, 05001, U.S.A., ISBN 978-1-60358-055-7