Manufacturing Competitive Markets by Competition Rules

Hancher and Hauteclocque (2010) argue that the problem concerning the application of EU competition rules in electricity and gas supply is not only related to its difficult application in a complex economic sector that is currently subject to change. A major concern is that the Commission may increasingly use competition rules, and thereby the commitment procedure, to directly influence the development of a competitive market environment for electricity and gas. According to them this is problematic basically for three reasons that are worth addressing in more detail (Hancher and Hauteclocque 2010: 9):

 Ambiguity of economic analysis

 Risk of increasing legal uncertainty

 Issue of political legitimacy

Ambiguity of Economic Analysis

As already mentioned, enforcing competition rule is based on economic analysis. Given that economic analysis offers a significant scope of discretion, the remedies imposed in commitment procedures to energy companies may be questionable in terms of their impact on the energy market (Hancher and Hauteclocque 2010: 10). Measures employed by the Commission to enhance competition and reduce market concentration may in reality either be ineffective or in the worst case even be counterproductive. For example, electricity or gas release programs imposed on energy companies may in absolute terms increase the energy volume freely traded in energy markets. However, despite the fact that as an economic coefficient this may be interpreted as an improvement, the evidence of a lasting positive effect may remain unclear. In the worst case, such measures may even deter investments in new power generation capacities (Hancher and Hauteclocque 2010: 11). In other words such measures may increase investment uncertainty and, as a consequence, in the medium to long term negatively affect energy security (chapter 2.5.2). Another energy security concern related to economic analysis and the application of competition rules concerns conflicts between quantifiable short-term and non-quantifiable long-term efficiency criteria.

Competition in the energy market as a short-term goal needs to be balanced with

non-economic energy security-related goals often requiring a long-term approach. Incorporating non-economic (political) goals into economic analysis poses a huge challenge (Hancher and Hauteclocque 2010: 11). In other words, economic analysis alone provides an unsatisfying tool to assess and answer non-quantifiable factors (Baldwin and Cave 2002: 77).

Risk of Increasing Legal Uncertainty

Another concern of Hancher and Hauteclocque (2010: 12) is the Commission’s growing reliance on the rule of reason when applying competition rules. Rule of reason assesses the competitive behavior of energy companies with regard to their effect on long-term consumer welfare and is based on a case-by-case approach in terms of competition rule infringements (Hancher and Hauteclocque 2010: 12).³⁶ The application of rule of reason in the energy sector may undermine the predictability of competition rule enforcement and, thus, increase legal uncertainty. An unpredictable regulatory environment can lead to serious problems. It may prevent new companies from entering the energy markets and, thus, hamper the development of a competitive market environment. Given the uncertain legal environment energy companies may refrain from new investments in the energy infrastructure. As already mentioned, competitive market environments are likely to exacerbate regulatory uncertainties, and the same applies to legal uncertainties (chapter 2.5.2). In the medium to long term this may negatively affect energy security of Member States.

Issue of Political Legitimacy

According to Hancher and Hauteclocque (2010: 9), the commitment procedure may become an important tool for the EU to actively contribute to the establishment of a competitive market environment in Member States (chapter 10.1):

“The commitment procedure thus allows the Commission to bargain liberalization outcomes directly with the incumbent companies without going through the interface of NRAs [national regulatory authorities] and Member States.”

It is the commitment procedure that makes the use of competition rules become a favored instrument by which the EU, in effect the Commission, can substantially support energy

36 As Herdegen (2010: 364) notes, the so-called more economic approach is increasingly guiding the Commission’s understanding of competition policy. According to it, competition is aimed at ensuring specific welfare goals. EU enforcement of competition rules is in a growing number of cases driven by the expected impact that the change of behavior of certain market actors will have in terms of welfare effects.

liberalization (Hancher and Hauteclocque 2010: 13).³⁷ Compared to the ELPs the Commission does not have to wait for new energy directives to achieve structural change in electricity and gas supply. The commitment procedure allows the Commission direct access to energy companies without having to mediate its objectives through national competition authorities and energy regulators. In addition, commitment decisions do not pose the risk of being overruled by the European Court of Justice. Moreover, the Commission has a strong bargaining position during commitment negotiations as it may impose substantial fines to energy companies, of up to 10 percent of a company’s total revenue. Finally, the commitment approach may allow the Commission to push for the establishment of a competitive energy market environment even if Member States oppose this process. According to Hancher and Hauteclocque (2010: 9) that in particular raises political legitimacy concerns.

Institutional Reasons for the EU‟s Use of Competition Rules for Market Manufacturing

The EU’s the application of competition rules to create a competitive market environment, though embedded in the logic of the internal energy market, raises major concerns. According to Hancher and Hauteclocque (2009: 9), it is possible that the Commission will gradually replace the practice of unilateral commitments with energy companies by more formal decisions. However, the economic, legal and political issues related to the application of competition rules to electricity and gas supply are likely to persist for the coming years.

Why does the EU use competition rules to support the creation of a competitive market environment, in the light of the serious legal and economic concerns that it causes? It is due to the EU’s institutional setup and expresses its ambition to enhance its influence with regard to establishing the internal energy market. The EU has to rely institutionally on a decentralized enforcement of its energy directives. As we will see later in the case studies (chapter 8) the EU’s directives are subject to the Member States’ political will to transpose and implement them. Even if the latter has been the case, the establishment of a competitive market environment and, especially, the internal energy market, require Member States in effect to go beyond merely implementing the ELPs. For the internal energy market to become reality Member States have to comply with EU energy legislation not only by the letter (by merely transposing it into national law) but also in its spirit. It means showing dedication to energy liberalization and actively supporting the establishment of a competitive energy market. The

37 According to Hancher and Hauteclocque (2010: 13) companies may even be more inclined to agree on commitments simply to avoid costly fines and court proceedings as well as risking private lawsuits before national courts.

use of competition rules as a tool to fostering the development of a competitive market environment for electricity and gas supply can be understood as the EU’s response to its institutional limits and a way to (autonomously) enhance its influence and effectiveness in energy market regulation (Salerno 2008).