The Impact of the New Wave of Financial Regulation for European Energy Markets

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Energy Policy 47 (2012) 468–477

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Energy Policy
journal homepage: www.elsevier.com/locate/enpol

The impact of the new wave of financial regulation for European energy markets Luuk Nijman n
School of Public Policy, University College London, London, WC1H 9QU, UK

H I G H L I G H T S
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The European Commission has put forward a set of financial legislation to stabilize both financial markets and energy prices. This article assesses the impact of this financial regulation on energy markets. It shows that the theoretical and empirical effects of key elements in this legislation are ambiguous. It argues that, if enacted, particular market parties such as energy companies should not be exempted. It concludes that this set of legislation will not necessarily bring about the effects the Commission desires.

a r t i c l e i n f o
Article history: Received 9 November 2011 Accepted 14 May 2012 Available online 31 May 2012 Keywords: Financial legislation Regulation European Union

a b s t r a c t
As the financial and physical markets for energy have increasingly become intertwined, energy trade is also covered by financial legislation. The European Commission wishes to strengthen this financial regulation of energy trade. It has put forward a set of regulatory proposals aimed at stabilizing financial markets and limiting volatility of energy prices. The most noteworthy are EMIR, MAD, REMIT and the revised MiFID. Key elements are transparency, new trading venues, central clearing obligations and mandatory transaction reporting. This article evaluates the likely outcomes for energy markets, given the new incentives for market parties. It argues that although there is no ground to exempt particular energy market participants such as energy companies from financial legislation, increased regulation will not necessarily bring about the effects the Commission desires. The causal link between derivatives trading and volatility of energy prices is not known precisely and many of the economic effects of the proposed legislation are theoretically and empirically ambiguous. Moreover, potentially conflicting instruments and objectives risk policy inconsistency. & 2012 Elsevier Ltd. All rights reserved.

1. Introduction1 The volatility of energy prices in recent years has generated political pressure to put these price movements under control. Simultaneously, in the aftermath of the financial crisis, the European Commission has set itself an ambitious regulatory reform agenda for the financial markets. This includes both a strengthening of existing financial regulation, as well as several new proposals. As the financial and physical markets have become intertwined – EU legislation defines many energy contracts as ‘financial instruments’ – regulation in financial markets will affect energy markets too.

Tel.: þ447833025035. E-mail address: l.nijman.11@ucl.ac.uk 1 The author would like to thank the two anonymous reviewers for their time and useful comments that contributed to this paper, as well as Jerry de Leeuw and dr. Geert Reuten who were willing to share their expertise on the subject during the research phase. 0301-4215/$ - see front matter & 2012 Elsevier Ltd. All rights reserved. http://dx.doi.org/10.1016/j.enpol.2012.05.030

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Recognizing this interdependence of financial and energy markets, the proposed set of financial legislation has two objectives. First, it wishes to reduce systemic risk in financial markets and avert some of the domino effects that unfolded in the recent crisis. Second, as this financial legislation also covers trade in commodity derivatives, it seeks to curb volatility of energy prices. The proposed regulatory package contains a number of requirements for market participants. These range from transaction reporting obligations and enhanced transparency to compulsory central clearing. Such requirements pose new incentives for market parties in their...
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