Beware of Regulators Part 2: The Romanian Revision of the proposed Gas Directive Amendment Makes Things Worse [GGP]

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Last year I wrote that pipeline owners hoping that derogations or exemptions will protect their projects from the implications of the proposed Gas Directive amendment should “beware of regulators bearing gifts.”[1] I noted that derogations and exemptions are “gifts” from regulators which usually come with strings attached. It is far better only to regulate where necessary rather than over-regulate but rely on exemptions and derogations to mitigate the harm. Discussion on the Gas Directive Amendment continues and the Romanian presidency has proposed a revised amendment text. However not only does this fail to solve the many inherent problems with the original proposal, but it actually makes things worse. In particular it grants more power to the European Commission (EC), not member states, to determine who will get a derogation and on what terms. It also limits the grounds on which a derogation can be granted.

A brief recap first. The EC proposed the amendment in November 2017[2] with the intention of extending the rules of Third Gas Directive (third party access, ownership unbundling) to import pipelines from third countries. The supposed rationale was that this was needed to protect and improve competition within the EU internal gas market.

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However in contravention of its own guidelines[3] the EC refused to conduct an impact assessment on the pros and cons of the proposal, causing much concern amongst many European gas companies and trade associations.[4]

Moreover concerns about the functioning of the EU gas market are not borne out by the evidence. The latest market assessment by the European energy regulator shows increasing price convergence and competition, and remarks on the high levels of security of supply and resilience.[5]

Others have assessed that the amendment will not only fail to meet its objectives but actually makes things worse, creating regulatory uncertainty for existing and future pipelines.[6] For example the amendment would create a conflict between EU law at one end of the pipeline and the regulatory framework of the third country at the other end, a so called “Conflict of Laws.”[7]

This has the potential to undermine existing agreements underpinning pipelines, for example those from Algeria to Spain or Italy. The proposal also creates conflicts with international law such as the UN Convention on the Law of the Sea[8] because of its application to the Exclusive Economic Zones (EEZ) of maritime member states, and the World Trade Organization because of its potential discrimination against Russian gas.[9]

At first glance the latest Romanian proposed revision[10] to the amendment appears to solve some of these problems. It recognises the potential conflict between EU and third country regulations. It continues to allow member states to offer derogations to existing pipelines, and makes it clear that such derogations are renewable. It enables member states to negotiate to renew and amend existing arrangements with third countries. It also drops the application of the Third Gas Directive to the exclusive economic zones of maritime member states. However creative drafting cannot solve the inherent problems of the amendment. Furthermore the EC will be granted even more power, making it much more difficult to gain a derogation.

The text makes it less likely that existing pipelines will be granted derogations. These may be granted “for reasons such as enabling the recovery of investment or due to reasons of security of supply.” However it is hard to see how the first reason can apply to pipelines which are up to 36 years old. Below is a table of some of the key pipelines that would presumably want to apply for a derogation. All of them will have recovered all or a significant percentage of their investment by time the amendment would come into force:

• TransMed between Algeria and Italy, commissioned in 1983
• Greenstream between Libya and Italy commissioned in 2004
• Maghreb between Algeria and Spain, commissioned in 1996
• Medgaz between Algeria and Spain, commissioned in 2011

On the security of supply justification the revised amendment is in conflict with the reasons the amendment was introduced in the first place. The EC has argued that import pipelines need to be regulated (as a result of the amendment) in order to improve security of supply.[11]

But the new revised Romanian amendment says that member states may grant a derogation from the regulation imposed by the amendment “for reasons of security of supply”. The two positions are inconsistent. And why is the EC proposing something that could make security of supply worse?

This is not the end of the story however. Derogations may only be granted “provided that the derogation would not negatively affect in (a) significant way competition in the [European] Union.” The amendment does not spell out who would be responsible for assessing this but it clearly gives the EC an opportunity to intervene as the guardian of the internal market. This is made clearer later in the new text where it says the EC “may adopt guidelines for the application of the conditions” relevant to granting a derogation. Such guidelines will be in effect legally binding and will enable the EC, not member states, to regulate in great detail whether and how derogations will be granted. 

The Romanian revised proposal also enables member states to “open formal negotiations with a third country to amend or renew an existing agreement or part of the agreement with a third country concerning matters . . . within the scope of this directive.”

Again at first glance this would seem to help member states who face a “conflict of laws” issue where existing arrangements are no longer compatible with the new EU legislation. But it is the EC who authorises member states to open such negotiations. The revised amendment also appears to be internally inconsistent as a member state will not receive this authorisation if this would be “incompatible with [European] Union law,” or “detrimental to the functioning of the internal gas market, competition or security of supply in a member State or the Union.” But the very way the amendment seeks to apply regulation to import pipelines means that negotiations will be incompatible with EU law.

This is because the amendment classifies import pipelines as interconnectors. They are thus subject to the Gas Regulation and the various Network Codes, all of which are legally binding. The latter are specific rules relating to matters such as capacity allocation, tariffs, balancing and operation of pipelines by connecting operators. One problem caused by the amendment relates to capacity allocation.

The Capacity Allocation Mechanism (CAM) Network Code[12] requires that capacity on either side of a border should be sold as a “bundled product” and sold via an auction process set out in the code. Until now this was only mandatory for interconnections within the EU, but by classifying import pipelines as interconnectors this rule will now have to apply to pipelines crossing borders between member states and third countries.

Unfortunately for bundling to work the rules for capacity allocation must be exactly the same on either side of the border.[13] Clearly this is not a problem for EU member states but cannot be taken for granted with third countries. The amendment would mean that Algeria, Libya, Morocco, Tunisia, Belarus, Russia, Turkey, Ukraine, Serbia, Moldova, Macedonia and a post Brexit UK would have to apply the CAM network code rules as they stand now and as amended in the future. If not the amendment causes problems for member states such as Spain, Italy, Poland, Finland, Estonia, Latvia, Lithuania, Hungary, Bulgaria, Romania, Belgium and the Netherlands, all of whom have a pipeline connection with one or more of the third countries listed above. So any negotiations held by member states which tried to renew or amend existing agreements which were incompatible with CAM would automatically be “incompatible with EU law.”

There are many other problems with the Romanian revision but suffice it to say the amendment would still be discriminatory against pipelines under construction and risks contravening WTO law. Nor does it make it any more likely that the amendment will achieve its objectives of improving competition and enhancing security of supply in the EU gas market. There is an old English saying that “you cannot make a silk purse out of a sow’s ear.” Unfortunately no amount of clever drafting will be able to disguise the amendment’s porcine origins. The best thing for European gas markets would be if the proposed amendment was quietly shelved.