On 15 December 2021, the European Commission (EC) released its 'Hydrogen and Gas Market Decarbonisation package' (“gas package”), along with legislation on methane emissions and the energy performance of buildings, and a Communication on Sustainable Carbon Cycles. This gas package is the fourth iteration of comprehensive legislation in the gas sector. In September 2020, the Commission announced that a new regulatory framework for competitive decarbonised gas markets would be developed in the fourth quarter of 2021. In February 2021, the Commission began its consultation process. This new framework represents the first major overhaul of the EU gas market rule book since 2009 and the adoption of the ‘Third Energy Package.’
This latest package also represents the concrete legislative implementation of some of the legislative proposals outlined in the EC’s ‘Fit for 55' package, launched in July 2021, which aims to signpost a path to achievement of the 27 Member strong Union of 2030 climate and energy ambitions. The goal is to deliver a 55% reduction in greenhouse gas emissions by 2030, relative to 1990 levels – as per the EU Green Deal and EU Climate Law. The new package promotes the demand and production of renewable and low-carbon gases, including hydrogen.
The two major legislative components of the package discussed here are the recast of the 2009 Regulation on conditions for access to the natural gas transmission networks (715/2009) (“Gas Regulation”), (RGR) and the recast of the 2009 Directive on common rules for the internal market of natural gas (2009/73) (“Gas Directive”), ((RGD) as well as their corresponding Annexes. The proposed RDG consists of ten chapters comprising 90 articles and the proposed RGR consists of five chapters comprising 69 articles.
The new package covers networks, gas supply and consumers, including detailed rules
- on the operation and financing of hydrogen networks,
- on transparency of gas quality parameters and hydrogen blends,
- on the repurposing of natural gas networks for hydrogen transport, and on the operation of dedicated hydrogen networks.
Dedicated hydrogen networks enjoy regulatory holidays up to 2031 but after that current gas regulation rules [unbundling of functions, non-discriminatory network access and ex ante regulatory supervision of tariffs] will be replicated for the hydrogen sector.
New long-term gas supply contracts are not to be allowed after 2049. Governments are given the option of joint procurement of strategic stocks of natural gas.
Incentives to promote uptake of and trade in renewable and low hydrocarbon gas will include connection and blending obligations for network operators and special network tariff reductions.
Enhanced consumer engagement rules to promote ‘self-consumption’ and local energy communities.
Major uncertainties include failure to provide robust definitions of ‘renewable’ and ‘low carbon gases’ and absence of EU -wide or national targets for the production or consumption of renewable and low-carbon gases.
This short overview highlights the major aims of the package as well focusing on certain controversial issues which will undoubtedly impact the passage of the proposals through the EU’s legislative machinery. As it could take at least two years before final versions are hammered out at EU level and subsequently implemented by the 27 Member states into national law, there is considerable skepticism as to whether the EU can deliver on its decarbonization targets on time. The need to decarbonise Europe’s gas supply has become pressing. But while electricity’s share in energy demand is expected to double and reach 53% of total energy use by 2050, the EC considers, controversially, that “gaseous fuels will continue playing an important role in the energy system” for the remainder of energy use”. The speed and direction of the EU’s energy transition away from fossil fuels is also likely to be shaped by two further sets of measures. These are the new state aid guidelines on climate, energy and environment – the CEEAG, adopted on 21 December 2021 and the eventual inclusion of natural gas in the EU’s ‘taxonomy’ regulatory framework. The measures are dealt with in separate client alerts. The proposed Regulation on Methane Emissions in the Energy Sector (MER), also launched on 15 December, is not further discussed here. It may be noted however that the draft MER will require the oil, gas and coal sectors to measure, report and verify methane emissions, and it proposes strict rules to detect and repair methane leaks and to limit venting and flaring, according to the Commission.
The Aims of the new Gas Package
A key objective of the new proposals is to “facilitate the emergence of an open and competitive EU hydrogen market” and “ensure access of renewable gases” based on an EU-wide certification system to ascertain their carbon content. The EC considers that there is significant potential to scale up the production and consumption of renewable and low-carbon gases, which make up less than 5% of the gas market today. The package sets out detailed rules on the operation and financing of hydrogen networks, on transparency of gas quality parameters and hydrogen blends, on the repurposing of natural gas networks for hydrogen transport, and on the operation of dedicated hydrogen networks. The current regulatory principles that have been developed for the natural gas transmission sector – including the rules on unbundling of functions, non-discriminatory network access and ex ante regulatory supervision will be gradually transferred to the hydrogen sector.
The package also strives to ensure the gradual phase out of natural gas assets, avoiding stranded costs, wherever electrification or a switch to renewable or low-carbon gases are possible. To avoid the lock-in of fossil natural gas, a limit is set for long-term gas contracts, which should not be able to extend beyond 2049. Article 27 RDG confirms that while the Directive shall not prevent the conclusion of long-term contracts for renewable and low carbon gases no long-term contracts for ‘supply of unabated fossil gas shall be concluded with a duration beyond the end of year 2049’ (see also RDG recital 125.)
The general aims of the new package can broadly be summarized as follows; (i) to establish the conditions for facilitating the rapid and sustained uptake of renewable and low-carbon gases, (ii) to increase engagement of gas consumers, (iii) to address contemporary security of supply concerns, (iv) to address price and supply concerns, (v) and finally, to recalibrate the structure and composition of regulatory bodies. For ease of reference, we divide the proposals into four pillars.
First pillar: Hydrogen and Decarbonization – towards an open market
The Recast Gas Directive (RDG) aims to facilitate the rapid roll out of an EU-wide internal hydrogen market. National Regulatory Authorities (NRAs) are tasked to support the creation of the internal hydrogen market through the promotion of cross-border hydrogen flows (recital 119, RGD). Article 2 (1) and (3) RGD differentiates between natural gas and gases (defined, respectively as natural gas and hydrogen). Accordingly, the Directive as well as the new Regulation set down rules applicable to natural gas and to ‘gases’ as more broadly defined. This is a positive development, given that the applicability of the 2009 Gas Directive - which regulates natural gas - to hydrogen had been unclear.
Nevertheless, instead of sticking to usual `colour-book` of hydrogen (green hydrogen, blue hydrogen etc.) the European Commission (EC) decided some years ago to consciously opt for a more blurred approach. For example, Art. 2 (10) RGD refers to`low-carbon hydrogen´, that is the hydrogen content of which is derived from non-renewable sources, which in turn meets a greenhouse gas emission (GHG) reduction threshold of 70% compared to fossil fuels setting specific sub-targets for the consumption of renewable hydrogen (50% of total hydrogen consumption for energy and feedstock purposes in industry by 2030 and 2.6% of the energy supplied to the transport sector). The 70% threshold proved controversial until the very last day before publication of the proposals. This 70% threshold may become progressively more demanding as this threshold, as stated in the RGD, “should become more stringent for hydrogen production in installations starting operations as from 1 January 2031 to take into account technological developments and better stimulate the dynamic progress towards the reduction of greenhouse gas emissions”.
Further definitions of `clean hydrogen´ (i.e. hydrogen produced using renewable sources), a term that has been proposed by the EC in the past, are not included in the RGD. However, the gas package promotes use of `clean hydrogen´ through other measures such as reduction in transportation tariffs (see below).
Low- carbon hydrogen`is a form of `low carbon gas´ (art. 2 (11) RGD). Article 8 (2) and (4) RGD provides for a certification scheme and requires operators to demonstrate to their National Regulatory Authorities (NRAs) that the requisite GHG-emission reductions have been met under a mass-balancing system. The same rules shall apply for imported low-carbon gases and hydrogen.
The EC’s Impact Assessment underpinning the proposals indicates that entry tariffs are a significant barrier to uptake of renewable and low-carbon gases into the existing EU pipeline network. In order to address this the EC proposes to grant discounts of 75% on entry tariffs and is also proposing to eliminate cross-border tariffs for renewable and low-carbon gases to facilitate sales across borders into the European market and to exploit the most promising production spots. Similarly, in the future, no cross-border tariffs will apply for the dedicated hydrogen network, promoting competition, affordability, and security of supply. The proposal also envisages that renewable and low-carbon gases would benefit from a 100% discount on the entry and exit tariffs at all interconnection points, including entry points from and exit points to third countries, as well as entry points from LNG terminals.
Regulatory principles and regulatory holidays
The draft Recast Gas Directive also brings about some key and ambitious changes to the regulation of national hydrogen markets. The core idea underlying the new market design for hydrogen is to introduce main regulatory principles inspired by those currently applicable to the natural gas market but adapted to the development stage of hydrogen markets. A separate Chapter VII sets out the rules for dedicated hydrogen networks. For instance, Member states will be required to designate hydrogen network operators, hydrogen storage operators and for hydrogen terminals a hydrogen terminal operator.
This gradual adaption shall be based on guidance on future regulatory developments. In practice this means that for a dedicated hydrogen networks a hydrogen network operator needs to be appointed. A number of Member States, including Germany and France, that already established their own rules for the regulation of hydrogen markets will need to change their hydrogen market designs and bring them in line with the new EU gas rules by 1 January 2031 (article 72 (1b), (7b) & (9), article 73 (1) RGD). In the meantime, the joint operation of hydrogen networks and gas or electricity grids can create synergies with the caveat that activities of hydrogen network operation should be organised in a separate legal entity to ensure transparency regarding financing and the use of access tariffs.
1 January 2031 also marks the end of the transitional period or ‘regulatory holiday’ for hydrogen (see recital 9 and articles 72 (1b), (7b) & (9), article 73 (1) RGD. After this date the full regulatory regime originally developed for natural gas networks, will apply to hydrogen networks. This regulatory framework includes ownership unbundling (i.e. separation of production and supply from network assets) of transmission system operators (TSOs) (see Arts. 54-64 – RGD), network operators (Arts. 65-69 – RGD), and separation of the regulated asset base (RAB) (Article 4 – RGR), as well as regulated Third Party Access (TPA) to the natural gas and hydrogen grids, including hydrogen storage facilities although TPA for LNG terminals may be regulated or negotiated (Arts. 5 – RGR and 27-33 – RGD).
Indeed, the introduction of ownership and access rules for an EU-wide hydrogen network (once established) was one of the key areas of debate in the lead-up and consultation prior to the packages’ release. Full ownership unbundling for operators of dedicated hydrogen network operators is now detailed in articles 62-64 RGD. Although these provisions are mainly modelled on the unbundling options available to vertically integrated natural gas undertakings there are some important differences.
A separate Chapter VII of the RGD sets out operational rules applicable to dedicated hydrogen networks which contains detailed provisions but also allows for a wide variety of exemptions for hydrogen systems to be granted by NRAs (e.g., closed and/or geographically confined hydrogen networks, as in articles 48 RGD, or for pre-existing hydrogen networks, as article 47 RGD). These exemptions are in general only temporary and cover tariffs, access to terminals and storage, as well as unbundling obligations.
For example, as per Article 31(4) of the RGD, Member States may decide not to require TPA to their hydrogen networks until 31 December 2030. This is just one illustration of the many temporary exemptions to the recast Gas Directive aimed at trying to encourage the development of a dedicated network and associated hydrogen market by vertically integrated companies. Temporary exemptions for existing and geographically confined hydrogen networks can be found not only in articles 31 and 62-64 of the RGD but also Articles 6 and 47 of the RGR, provided they meet the criteria outlined in Articles 47 and 48 of the new Directive.
There will be an equivalent regulatory regime for intra-EU and import pipelines. There are also provisions on TPA to hydrogen terminals and hydrogen storage (art. 31-33 RGD). Article 38 RGD provides that natural gas and the hydrogen network operator shall not be entitled to refuse the connection of a new natural gas or hydrogen storage facility, LNG regasification facility hydrogen terminal or industrial customer on the grounds of possible future limitations to available network capacities or additional costs linked with necessary capacity increase.
Special attention is paid to cross-border hydrogen interconnectors (article 53 RGD). While these are discussed in the new Gas Directive, cross-border flow of blended gas/hydrogen streams is dealt with the new Gas Regulation (RGR). Article 20 RGR prescribes that transmissions system operaters shall accept cross-border blended streams with up to 5% hydrogen content from 1 October 2025. This might well have repercussions on other connections, including sensitive gas storgae facilities down the line, which are to be adapted to tolerate that amount of hydrogen. Article 19 RGR requires the various Transmission System Operators to cooperate to avoid restrictions of cross-border flows due to differences in gas qualities.
In short, the majority of the substantive rules governing the existing natural gas network will remain relatively unchanged for decarbonised gases and will also carry over for hydrogen networks once the transition period – and the associated regulatory holiday - expires.
Second Pillar: Governance
From a governance perspective a new EU body will be created, the European Network of Network Operators for Hydrogen (ENNOH), according to Article 40 RGR. It is supposed to, inter alia, establish technical network codes and adopt Ten Year Network Development Plans, etc (article 42 RGR). Equivalent bodies already exist for electricity network operators (Entso-E) and natural gas network operators (Entso-G). It is not yet clear whether a company could be a member of all three.
TSOs are required to develop national network development plans based on a joint scenario for electricity, gas and hydrogen. The network operators shall regularly assess market demand for new investment taking into account the joint scenario as developed for the integrated network development plan based on Article 51 of [RGD as well as security of supply (Article 9(4) RGR).
This process should be aligned with National Energy and Climate Plans, as well as the EU-wide Ten Year Network Development Plan. Gas network operators will have to include information on infrastructure that can be decommissioned or repurposed. There will be separate hydrogen network development reporting to ensure that the construction of the hydrogen system is based on a realistic demand projection.
Member States should be allowed to choose to draw up a network development plan on a regional level including more than one Member State, and in line with voluntary regional gas market integration. In contrast to electricity, the role of natural gas is expected to decrease, which also affects the demand for infrastructure investments. The network development plan therefore needs to balance competition concerns and avoid stranded assets.
It should be stressed that the package contains no targets for the production or consumption of renewable and low-carbon gases. Monitoring progress may prove complex. Furthermore, agreement on even non-binding targets would have been a significant step forward, to create a hydrogen market.
Third Pillar: Active Customers and Customer Protection
The second aspect of the package is to enable participation of active customers in the gas market, largely mirroring the system already set up for electricity customers in 2019. Article 2 (71) RGD clarifies that an active customer can be an individual person or a group of jointly acting final customers, who consume or store renewable natural gas produced on their premises within a confined boundary or (where permitted by Member States) even on other premises or who sell self-produced renewable gas, but not as their main activity. Chapter III of the RGD governs consumer empowerment and protection. Article 13 RGD establishes a light regulatory framework for active customers, essentially providing that Member States shall ensure they can actually participate in the markets. Article 14 RGD imports an entity established in the recast Electricity Directive of 2019 into the gas world - citizen energy communities (CECs). These citizen energy communities for gas shall be enabled to have cross-border membership, and, if Member States wish to do so, obtain the right to operate gas distribution networks (art. 14 (4) RGD).
Consumers, which will include the possibility to choose from at least two suppliers, with the possibility of having separate contracts for natural gas or hydrogen at the same time. Article 25 RGD on vulnerable customers establishes that Member States can set gas prices for vulnerable customers based on a new, common EU-wide definition of energy poverty (as defined in article 2 (69) RGD).
Fourth Pillar: Security of Supply and Joint Purchasing of Gas Stocks
The EU Regulation on security of gas supply (Reg 2017/1938) already contains provisions on solidarity between Member states in the event of supply disruptions, but the 2009 Gas Regulation did not cover security in such detail. However, the recast Gas Regulation extends the scope of Reg 2017/1938 (Article 67) to cover renewable and low-carbon gases, as well as introducing additional provisions on cybersecurity and supply disruptions. Insulating against these problems is a concern not only for long-term decarbonisation of the sector but also for competitiveness and security, two of the other fundamental principles of EU energy policy.
EU countries are responsible for their own energy policies, so individual states have a divergent energy ‘mix’ and consequently varying types gas storage facilities.The Commission therefore suggests various voluntary measures that can be taken by Member States on the basis of the common risk assessment and subject to consultation, to protect against supply risks. In theory cross border pipelines enable member states to access stored gas in neighbouring countries. But this system already existed prior to the current 2021 gas crises and this system of interconnections did not help to avert the present crisis. However complex legal issues would invariably arise. Who would be allowed to draw on the stock, and at which point in time and in what ratio? How would storage owners be remunerated for their services? The draft does not provide any answers.
Options to improve security listed in the draft proposal include imposing minimum storage obligations, introducing incentives for gas storage bookings, and integration of storage into the transmission system of network operators (Article 7b of Reg 2017/1938). Following a proposal drawn up by several Member States earlier in the year, Article 7d of the RGR facilitates the option of joint procurement of strategic stocks of natural gas. It is not a mandatory or centralised initiative, but rather an option for Member States to coordinate under the purview of the Commission and in line with EU law and competition rules.
In relation to cybersecurity, the proposed RGR (Article 67) mandates that it is included as a threat in the preparation of Member State ‘preventive action plans’ (PAPs) as foreseen in Article 8a – Reg 2017/1938). This article also provides for the adoption of a delegated act (i.e., secondary legislation) fleshing out gas-specific provisions for cybersecurity as regards cross-border gas flows.
Some final observations
The new gas package is ambitious in its overall aims – i.e., to deliver on the EU Climate Law’s a European wide net-zero economy by 2050 and the intermediate target of a net 55% reduction of greenhouse gas emissions by 2030. It will be optimistic to assume the requisite legislation is in place at national level before the end 2023, if not 2024. This hardly leaves much time to ensure the phase out of natural gas. The EU will need to work quickly and decisively to decarbonise the gas sector, with reductions in fossil gas consumption of 32-37% required by 2030, in line with its own impact assessment. At the same time the energy systems across the 27 Member States vary greatly and may require tailored solutions to decarbonise. This may also mean that some Member States are more ready to grant exemptions than others, leading to a ‘regulatory patchwork’ of regulatory holidays.
Seen in this light the various provisions of this lengthy and detailed package do little to accelerate the transition away from ‘low carbon gas’ to renewable gas and/or renewable hydrogen. In the absence of clear definitions of these key concepts, workable targets and a convincing regulatory framework, the realization of a market for renewable hydrogen and the infrastructure to facilitate its efficient and economical roll out across Europe, avoiding lock-ins, may prove elusive, and in any event both time consuming and risky for investors. The proposed rules and sunset clauses on blending gases and on repurposing existing methane gas infrastructure are vague. Billions of euros of natural gas assets could become stranded in the near future while in the longer term, a surfeit of repurposed infrastructure could also become stranded.
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