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European power markets indicate little turmoil in meeting ambitious EU electricity goals

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      By John Miller, VP and ESG Senior Research Analyst, Calvert Research and Management

      Washington - Q1 2019 saw an impressive wave of announcements from European countries related to ambitious reforms within their respective electric power sectors. Despite the scale of these announcements -- and the inherent upheaval required in generation portfolios across Europe -- power futures markets show little sign of impending price spikes, or capacity scarcity predicted by fossil fuel advocates.

      If national plans calling for a phaseout of coal-fired electricity generation and significant buildout of renewable resources were technically infeasible, uneconomic or impossible given the short timelines, one would expect European power futures to reflect this risk through premium prices. This has not been the case.

      Electric sector reform

      The German Coal Commission, established to map out Germany's strategy for achieving the Paris Agreement's carbon-reduction targets within the power generation sector, provided preliminary guidance in January outlining a total elimination of coal-fired (and lignite) electric generation by 2038.1

      Currently, lignite and hard coal continue to play a large role in Germany's overall generation portfolio. In 2018, hard coal generated 73 terawatt hours (TWh) of electricity, while lignite generated 131 TWh. Between them, this totaled 38% of Germany's electric generation.2 This is similar to the numbers in 2017, when hard coal accounted for 15% of total German electric generation and lignite 25%.3

      Spain -- the last EU country to submit its EU National Energy and Climate Plan for 2021-2030 -- approved in February a €101.6B program designed to meet approximately 74% of electricity demand through renewable generation by 2030.4 All Spanish coal-fired electric generation capacity will be retired by 2030 to 2035.5 By 2030, Spain is targeting more than 50 gigawatts of wind capacity and over 40 gigawatts of combined solar PV and solar thermal. To meet these targets, Spain plans to hold competitive procurement auctions for over 3 gigawatts of renewable capacity per year.6

      Power futures market reaction

      Ahead of the German Coal Commission's announced recommendations, German baseload calendar year 2020 power futures were trading just above €51 per megawatt hour (MWh).7 As of April 1, 2019, those prices are little changed, just under €51/MWh. Calendar strips (or baseload power futures) for calendar year 2021 and 2022, through the first wave of coal and lignite retirements, show similar trading patterns. For further context, prompt May 2019 monthly German baseload power futures are trading at €42/MWh, with summer month contracts nearing €50/MWh. Balance-of-year 2019 futures are trading at ~€50.50/MWh, indicating only a marginal price spread between 2019 and 2020/2021/2022.

      Spanish power futures are equally unmoved. Baseload calendar year 2020 Spanish power futures entered 2019 just north of €54/MWh. Following approval of the Spanish 2021-2030 National Energy and Climate Plan, the 2020 contract entered April 2019 little changed, just below €56/MWh.8 More significantly, into April 2019, longer-dated calendar strips indicate pricing declines, with calendar year 2021 shown at €51.38/MWh and 2022 at €49.05/MWh. As in Germany, prompt May 2019 power futures show little spread from dated contracts, trading at €55.18/MWh.

      The next energy model

      Germany and Spain's announcements are important. For large economies with coal-heavy power generation sectors, Germany serves as a model, indicating that postindustrial economies can engage with the energy transition within the context of an affordable cost structure. Further, in failing to indicate stress, German power markets are signaling that arguments predicting deteriorating system reliability are currently without merit. For states with ample inherent solar and wind potential, Spain serves as a model, indicating that renewable energy can be deployed across electricity, transportation, and heating and cooling systems.

      Looking forward, Calvert views approval of the commission's coal retirement pathway, implementation of Spain's (and the 2021-2030 plans of other EU states), along with utility-level discussions on the makeup of future generation portfolios, as catalysts for investor action. More broadly, Calvert will be listening for signals from other coal-heavy economies on plans to replicate or diverge from the German-led phaseout.

      Bottom line: Calvert views the power generation sector as a prime mover in efforts to decarbonize the global economy, and is supportive of efforts to reduce the sector's emissions footprint such as those from Germany and Spain.