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The Baltic electricity market – a small but highly diverse region

The Baltics is one step away from a comprehensive open electricity market in all three countries. For the last six months all consumers in Latvia have been able to buy electricity on the open market, and only Lithuania has to open its market to households. At the same time significant differences in consumer electricity bills of each country still exist even in the open market. In addition, households in particular are the most diverse market segment that allows for the assessment of the overall market development in each country and the impact of decisions made by legislative bodies.
The most striking differences evidently are observed in Lithuania because households are still subject to the regulated price in this country. However, it does not prevent one from drawing conclusions that the total costs in each country include balanced cost components forming the end-user electricity price, leading to a logical question – why are there still substantial differences in the end-user price in such a small market region with similar cost components?

The end-user electricity bill is formed of three main components – electricity price, a fee for the distribution network services required for electricity supply and a compulsory procurement component (CPC) or aid payments for energy production from renewable energy resources, or for other strategic energy projects.

Lithuania expects a rise in electricity prices
At the moment the regulated electricity prices have been abolished both in Latvia and Estonia, yet there is still a long way to go to create a single Baltic market because of each country's different market operations conditions. Technical factors determining electricity production volumes and electricity flow between the countries also impose constraints. Latvia and Lithuania are constantly an electricity production deficit zone due to the limited possibilities to generate electricity in highly efficient power plants with low variable costs. Estonia, in turn, benefits from more favourable conditions for lower electricity prices thanks to the powerful connections, namely, two submarine cables for electric power transmission from Scandinavia where at the moment the prices are particularly low. Due to the limited capacity of the Estonian–Latvian interconnection, Latvia and Lithuania do not get a sufficient amount of this cheaper electricity though it is needed to align the price level in the Baltics.

Currently, electricity prices for Lithuanian households are lower than Latvia, yet this level is largely maintained by means of the regulated tariff which was last reviewed in 2014. If the regulated price in Lithuania were abolished right now, Lithuanian consumers would face a price increase, and the household electricity price would approach the Latvian price level. However, since at the moment it has been publicly announced that the Ministry of Energy of Lithuania is not planning to abolish the regulated price for households before 1 January 2017, it can be assumed that after opening the market, Lithuanian households will not pay more for electricity than now.

It can be expected that the price differences between Latvia and Lithuania, and Estonia will reduce, yet they will still remain in 2016 when the new Lithuanian interconnections with Sweden and Poland launch, due to the constant deficit of energy production.

A likelihood of optimizing the distribution network tariff
The second most significant difference in price components can be observed in the distribution network tariffs. This element in Lithuania is the lowest at the moment. However, it should be taken into account that it is the regulated price or tariff, and it is generally known that the regulator in Lithuania has refused to review this element for a while. This massive difference in distribution network tariffs between Lithuania and the other Baltic countries leads one to think that such a low tariff level is not sustainable and might be reconsidered upon opening of the market in Lithuania.

Meanwhile, the Public Utilities Commission (PUC) in Latvia has approved new differentiated tariffs on the electricity transmission system services of AS "Augstsprieguma tīkls" (AST), that are expected to go down by even up to 8.1% compared to the current tariffs. It is noteworthy that initially AST requested a tariff increase but the regulator constructively assessed the market players' proposals for a more efficient cost review, including a suggestion from Enefit to compensate the potential tariff increase from the accrued income for congestion management as was previously done in Estonia.

The new tariffs will come into effect 1 August 2015 and they will apply to the distribution system operator AS "Sadales tīkls" and separate users directly connected to the transmission system. As a result the regulator has achieved a tariff reduction, and this step is a good reason for not increasing the distribution system service tariffs at the moment when they are reviewed, but rather merely optimizing them by introducing a fixed connection fee. The PUC has certainly showed a willingness to consider the natural structure of the monopolistic tariff in its essence, and this is good news for Latvian consumers.

The most generous aid for renewable energy resources is available in Latvia
The greatest differences among the Baltic States can be observed in terms of support of the subsidized projects or those payments that are known in Latvia as the compulsory procurement components (CPC). The statutory conditions slightly vary in each country, though, regarding the types of energy generation projects supported. In Estonia, aid payments are received by the power plants which use renewable energy resources and some highly efficient CHP plants, but in Lithuania they are granted to both of these types of power plants. The situation in Latvia is similar to Lithuania, however, it differs in one significant aspect – the majority of the power plants which receive support are gas driven CHP plants. For this reason the CHP aid payments in Latvia are as high as, for example, the total amount of the Lithuanian CPC payments.

While considering the options of reducing the CPC burden on Latvian consumers, all efforts are currently focused on preventing the CPC from rising and it has been proposed to reduce it for certain large consumers, stimulating their interest in making investments in Latvian economic development. A solution for stopping the CPC rise is found currently together with the introduction of the subsidized electricity tax, state budget grants and a prohibition of the Ministry of Economics to grant new rights for the electricity producers to receive support within the scope of the compulsory electricity procurement until 2016. Without implementation of these solutions the CPC would be considerably higher. At the same time a question then arises: How is Latvia planning to manage this important component of electricity costs in the future? Both neighbours of Latvia, for example, have managed to achieve an opposite trend in the amount of the state support in the recent years, retaining it at a considerably lower level or even decreasing it substantially.

The biggest price adjustments are expected in Latvia and Lithuania
The most important changes in the market in the near future can be expected mainly in Latvia and Lithuania because the Estonian market has been open to all consumers already for more than two years, and no significant changes in the infrastructure or production facilities are envisaged there. Certain price adjustments will be brought in Latvia and Lithuania quite soon by the new Lithuanian interconnections to be launched later this autumn. They will ensure an increased capacity for a cheaper electricity supply from Scandinavia and Poland. This will potentially allow for the reduction of the average price level in Latvia and Lithuania, which is particularly important for Lithuania because it has to open its market for households and find the ways to mitigate the potential impact of the price increase on consumers.

It can be anticipated that in future, electricity prices and distribution service prices in the Baltic countries will be on the same level. In terms of electricity it will be stimulated by launching the new interconnections in 2016 and also by the next planned connections to be launched in 2020, whereas adoption of best practices in the field of regulation of the distribution tariffs and activities of the distribution operators will most likely also ensure uniformity of this price component among the Baltic countries. All this means that in the long run, when the electricity market is open in all three Baltic States, the most substantial difference in electricity costs will be determined exactly by the compulsory procurement component.

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