Why implicit method for Balticconnector capacity allocation in 2020-2021?

Gas transmission capacity at Balticconnector is allocated on the basis of nominated quantities starting from the beginning of 2020. The allocation methodology has been approved by the national regulatory authorities after public consultation in Estonia and Finland.

The Finnish transmission system operator has been approached by market participants with questions on the capacity allocation methodology. These questions stem from a need for shippers to reserve capacity products beforehand to secure transportation for a longer term than only day-ahead and withinday. With this text, the transmission system operator provides a background for the selected methodology and factors that affect its present and future design.

Capacity allocation methodologies of interconnectors in the EU context

Finland will waive derogation as the last country in the EU in the beginning of 2020. This means the full adoption of the EU Gas Directive, Network Regulation and Network Codes that include, e.g., regulation on the capacity allocation methodologies of interconnection points. The Network Code on Capacity Allocation Mechanisms (NC CAM, 459/2018) determines two possible capacity allocation methodologies as follows:

  • Implicit capacity allocation methods, in which case national regulatory authorities may decide not to apply Articles 8 to 37 of the NC CAM; and
  • capacity auctions with standard products and schedule defined in NC CAM.

Implicit allocation method means a capacity allocation method where, possibly by means of an auction, both transmission capacity and a corresponding quantity of gas are allocated at the same time. Furthermore, Network Code on Tariffs (NC TAR, 460/2017) sets out the principles for the calculation of reserve prices for standard capacity products. Setting a reserve price for standard capacity products is required for all interconnection points between two Member States.

Market integration between EU Member States in the EU context

Market integration is generally set as an objective in the EU policy[1]. While this objective is presented in the Network Codes, its regulatory enforcement remains at one entry-exit system level. Firstly, there is no regulation to support the abolishment of tariffs between two or more systems. For example, the Network Codes lack a definition for inter-transmission system operator compensation (ITC) mechanism that is in place in the electricity network codes. An ITC agreement between two or more transmission system operators enables the monetary compensation of tariffs between the transmission system operators so that the reserve price at the interconnecting points can be removed.

Secondly, the establishment of a single balancing zone between two or more transmission system operators lacks the definition of intermediary steps in the Network Code on Balancing (NC BAL, 312/2014). Intermediary steps would allow harmonization and implementation between two or more Member States through controlled steps over time rather than all at once. A few Member States have managed to develop their own versions of joint balancing zones. These include Belgium-Luxemburg and Denmark-Sweden. In both cases, the latter country is reliant on the first as the sole importer of gas to the other.

Unique starting point of Balticconnector

From the above perspective, a joint balancing zone between Estonia and Latvia, an ITC agreement between Estonia and Finland, market liberalization in Finland and the commissioning of an interconnector at the same time constitute a unique starting point for the commercial operation of Balticconnector.

From the perspective of the current Network Codes, an ITC agreement means that the reserve price in capacity auctions would be set to zero and/or capacity is allocated implicitly at zero tariff.

From the market integration perspective, Balticconnector is defined as an interconnector for as long as Finland and Estonia belong to different balancing zones. In view of a potential joint balancing zone between these countries in the near future, an alternative to strictly following the Network Codes is to consider intermediate steps that would serve the transition and provide cost-efficiency to the market. There are several possibilities how to do this. The alternatives discussed during the design phase were:

a) Capacity allocation through first-come-first-served based on standard capacity products

b) Capacity allocation through pro rata based on standard capacity products

c) Implicit capacity allocation on gas exchange and based on nominations in the case of bilateral trades and having only day-ahead and withinday capacity products available to the market

Following the Network Codes would require an auction system, while alternatives a) and b) would require an explicit capacity reservation system. Furthermore, alternatives a) and b) a pose an additional design challenge under an ITC agreement with zero tariff. This concerns how to prevent shippers from reserving the entire available capacity without cost and exploiting this opportunity in the secondary market. Solving this would require a use-it-or-loose-it mechanism. The above leaves two options: capacity auctions from the start or alternative c).

Alternative c) can work over the long-term only under the assumption that Balticconnector is not congested. If there is congestion, capacity should be allocated to the highest bidder, i.e., through capacity auctions or via implicit capacity allocation on a gas exchange. According to the transmission system operators suggestion and approval by the national regulatory authorities, Balticconnector will start its commercial operation under the option c). This decision by the national regulatory authorities is in force at maximum for two years and is intended only as a transitional solution for a newly established market. During this period, the transmission system operators and regulators in Estonia and Finland will closely monitor the market development. Changing the capacity allocation mechanism will require the development of a replacing model, an approval from the national regulatory authorities and public consultation in both countries in addition to technical implementation. For the above reasons, major changes to the existing mechanism will take several months. The transmission system operator will launch public discussion on the capacity allocation mechanism after option c) as soon as there is data indicating or a strong opinion at the market or by the regulator that the allocation mechanism should be changed already before 2022.

[1] https://ec.europa.eu/growth/single-market/strategy_en