MODELLING RENEWABLE ENERGY MANAGEMENT INEFFICIENCY IN EUROPE WITH PANEL DATA STOCHASTIC FRONTIER MODELS

Angeliki N. Menegaki, Department of Languages, Literature and Culture of Black Sea Countries, Democritus University of Thrace, 69100, Komotini

Abstract

The paper employs three stochastic frontier inefficiency configurations to categorize European countries according to their inefficiency in renewable energy management. The results come from an empirical application of a panel with 32 European countries over a 14 year old period using a translog type production function. In particular the paper focuses on results from the Alvarez et al. (2006) fixed management model and compares results with the conventional stochastic frontier model and the random coefficients model with inputs such as renewable energy, fossil fuel energy, employment, capital and carbon emissions. The results suggest that renewable energy deployment does not significantly affectgrowth in Europe, wherein management inefficiency becomes eloquent with the aid of the management adapted frontier model.

Keywords:Europe; fixed management model; inefficiency; renewable energy; stochastic frontier;

1. Introduction

Renewable energy sources (RES) are currently unevenly and insufficiently exploited in the European Union, EU (Menegaki, 2011, Menegaki, 2012) with a small contribution of about 7.8-8% (Eurostat, 2012) to the overall gross inland energy production. In spite of the various European directives for the promotion of RES being the 2001/77/EC on electricity production from RES (European Commission, 2001), the 2002/91/EC on energy performance of buildings (European Commission, 2002), the 2003/30/EC on the promotion of biofuels and other bioliquids (European Commission, 2003) and the 2009/28/EC on the promotion of the use of energy from RES (European Commission, 2009), which demanded that RES in final gross energy consumption in Europe doubled from 6 to 12% and achieving 22% electricity production from RES by 2010, also a reduction in primary energy use by 20% and a reduction of greenhouse gases by 20% below the 1990 levels, still no-long run relationship between RES consumption and growth has been confirmed providing evidence for the neutrality hypothesis (Menegaki, 2012), namely evidence that no dependence of the two magnitudes exists or that renewable energy does not play a significant role in European growth. Moreover, the share of imported fuels remains high and is estimated to reach 70% of total energy consumption by 2020 (Loyning, 2010). EU Directive 2009/28/EC repeals EU Directives 2001/77/EC and 2003/30/EC and paves the way for an effective management of RES across member states in order to pursue their RES 2020 goals.

The overall 2020 potential for RES in the EU corresponds to a share of 28.5% of the overall current gross final energy demand. Member States possessing large RES potentials are France, Germany, Italy, Poland, Spain, Sweden and the UK, while Austria, Finland, Portugal and Sweden had already by 2005, fulfilled their 2020 planned potential. Sweden is the leader with 44.4% of gross final consumption while Malta is a laggard with a minor 0.2% (Loyning, 2010). A breakdown of the RES potential in Europe reveals that the highest target has been set for the heat sector wherein the largest progress has been made (Ecofys, 2011).

The vast majority of member states are confident they will reach their 2020 RES goals and 60% of them expect to exceed them while Italy and Luxemburg plan to resort to co-operation mechanisms to achieve their goals (EREC, 2011) and smooth national discrepancies. Furthermore, the relevant industry forecasts a share in final energy consumption of about four percentage units above the share forecasted in their national renewable energy action plans (EREC, 2011) despite the financial crisis. By 2020 wind energy will represent 14.1% of the electricity consumption, hydropower 10.5%, biomass 6.5%, photovoltaics 2.35%, solar power 0.5%, geothermal energy 0.3% and ocean energy 0.15% (Eurostat, 2012). The share of RES in heating and cooling will increase from 10.2% in 2005 to 21.3% in 2020. Renewable energy in transport would amount to 12.2% by 2020 (EREC, 2011). There also hopeful estimates that by 2050 renewable electricity will provide 100% of the European power demand (Zervos et al., 2010).

RES supporting instruments

There are various categories of support instruments: feed-in tariff, premium, quota obligation, investment grants, tender schemes, tax exemptions and fiscal incentives. The number of the employed instruments by each country is presented in Figure 2 with data taken from Ecofys (2011). Feed-in tariffs guarantee the price and a secure demand thereby creating certainty to investors. There is always the possibility of a large profit for RES producers when the cost of renewable energy has been overestimated, but this can be alleviated when the cost is regularly updated. Boomsma et al. (2012) provide evidence of investment behavior under RES support schemes. They find that feed-in-tariffs encourage earlier investment while as the investment proceeds, certificate trading creates incentives for larger projects. As regards quota obligations, they entail the imposition of minimum shares of renewable electricity on suppliers or producers that increase with time. They are often combined with tradable green certificates. Tender schemes, provided usually for large off-shore projects, draw attention to the competitive element incorporated in renewable energy projects. Tax incentives appear either in investments or the production of RES. Fiscal incentives also include soft and low interest loans with longer repayment periods or tax exemptions from CO2 or energy taxes. They are attractive because of their direct message transmitted to final energy consumers about the added value of RES (OPTRES, 2007). For a detailed overview of the supporting instruments applied in each country, interested readers should consult Ecofys (2011).

Figure 1: Number of RES supporting instruments in European countries (data taken from Ecofys, 2011).

As far as the structure of this paper is concerned, after the introduction, the rest of the paper is organized as follows: Part 2 explains the constituents of an effective and efficient management of renewable energy resources by countries. Part 3 presents the fixed management stochastic frontier approach for inefficiency measurement. Part 4 deals with data description and results and last, part 5 is the conclusion.

  1. Effective and efficient management of renewable energy resources by countries

The management that countries need to perform, focuses on increasing RES penetration (at least according to 2009/28/EC Directive demands) in the market while at the same time minimising public costs. Management must be applied as such so as to keep RES industry consumers and producers interested. One of the biggest challenges is to bring the above three groups into a joint agreement and reconcile their different interests. Table 1 addresses all the RES management defaults noted today and proposes solutions consistent with the 2009/28/EC Directive.

For the industry agents, a guarantee of a continuous demand of their applied technology is crucial to keep them in the game. Investors, depending on their risk attitudes, are interested in as much high a producer surplus as possible. Consumers are interested in low prices. Today and until 2010, most countries have performed Business-as-Usual (BAU) policies and they worked towards a harmonization of European objectives. Assuming that energy consumption grows with time and that CO2 prices pass directly to energy prices, increased RES deployment will decrease CO2prices. It is crucial to know the potential domestic and realistic supply of energy from each technology: biogas, biomass, biowaste, on-shore/off-shore wind, small/large scale hydro, solar, thermal, photovoltaic, tidal, wave and geothermal energy.

Costs are adapted by endogenously technology-specific learning rates and estimate the long-run marginal social cost. Policy makers must decide whether they will remain at BAU solutions leading to the most cost-effective technology which however excludes expensive in the short-run novel technologies. Existing and new plants should be distinguished and handled differently by support mechanisms. Support should be stable but limited upto a certain timeand might as well become integrated with other policies such as climate change or agricultural policy. Technological learning must be reflected in the feed-in-tariff sytem by taking into account and correct any overcompensation produced by uniform tariffs, namely introducing tariff degression based on the technological progress made. Local electricity stations must be lawfully bound at buying green energy at priority. Tariff levels can vary depending on local conditions, the size or fuel type of the plant. The idea of setting a plant as a reference point increases transparency, so that not only the most favourable conditions in a country are exploited and the risk of over-subsidizing very efficient plants is lowered. Premium tariffs paid on top of the electricity market prices are a move towards a more market based support instrument. It leads to a more efficient allocation of the grid costs and gives producers an incentive to feed electricity into the grid at times of peak demand. Penalty payments for non-compliance can ensure quota fulfillment. Abolishment of subsidies for fossil and nuclear energy will re-distridute investment interest on RES.

Markets need to be deregulated at a higher degree, so that consumers will not bear the burden of RES development while producers will go free. Transmission System Operators (TSOs) must be provided the possibility of acting independently so that this leads to the development of the transmission infrastructure capable to integrate RES. The intermittent nature of wind or solar energy and the seasonality of biomass and hydropower are important to take into account and incorporate in the demand. According to Zervos et al. (2010), until EU has a fully liberalised electricity market, RES must have priority access to the grid. In particular Jamasb and Politt (2005) suggest some interesting form of electricity liberalization which consists of a combination of competitive energy and retail markets with regulated transmission and distribution activities.

Countries which develop RES, also increase employment (2 million full time jobs will be created by 2010; Lins, 2008, projecting at 4.4 million jobs by 2030 and 6.1 million jobs by 2050; Zervos et al., 2010) and industrial development and at the same time decrease local pollution (728 million tons/year of CO2 emission reduction in 2020, representing 17.3% of the total GHG emisions in 1990; Lins, 2008). Cross-border power trading through the building of grid infrastructure can be enhanced. The creation of a single power market based on RES also imposes the need for a super and smart grid to interconnect all RES installations both in a centralised and decentralised way. New power capacity equal to 42% of current EU capacity must be built by 2020 (Zervos et al., 2010).

Co-operation among countries is imposed for a variety of reasons one of which being the interaction among the different support schemes which for example can have an impact on the price of CO2 permit trading system or the price of power in these regions and across borders. Each country must take into accout its political, technological and market risks in whose context a RES plan must be built or adapted for the country. All countries together need to work for an EU-wide carbon tax reflecting all costs incurred when using conventional energy sources.

Good management entails the establishment of a one-stop shop which assigns only to one authority the permit and support related procedures of RES projects, while at the same time will reduce lead times and lack of the co-ordination among authorities.

Moreover, apt RES management must concentrate urgently on grid matters giving priority to a pan-European grid system. Sufficient and reinforced capacity has to be built. Transparent and swift procedures for grid connection must be established.

Campaigns must lower public opposition and disseminate the hidden benefits from RES. Emphasis must be placed to sustainable development through job creation. Participation of local public, the authorities and other stakeholders in large projects in their area through co-operation programmes is crucial and will not jeopardise the implementation of the projects. A stable and transparent environment will uphold other financial barriers such as the lack of trust from banks because of subsidies' unpredictability due to the vague administrative framework.

Table 1: Management defaults and solutions for renewable energy sources.

RES Management default / Solution
1. Planning delays and restrictions often caused by reaction to objection and issuance. / - Establish preclusion effect (i.e. objections can be raised only withing a given time).
2. Lack of co-ordination between authorities because of their large number being involved and the unclear administrative framework (e.g. broad margins of descretion, lack of transparency, corruption etc). / - One-stop shop (through a central agency).
3. Lengthy procedures in obtaining authorization e.g. 3-6 years in Greece, France etc. / - One-stop shop.
- Provide a fast lane for RES projects.
- Set obligatory limits for authorization provision; if not met, this will lead to tacit approval.
4. Costs of obtaining permission (e.g. 30% of the overall costs for small PV projects). / One-stop shop.
5. Insufficient or hostile spatial planning affecting large projects caused by deliberate actions, social opposition and environmental effects. / Include stakeholders financially, e.g. ensure that municipalities directly benefit from RES projects in their area.
Involve local population and encourage their participation in the project.
Teach them to make the trade-off between the additional local impact and the avoided import of fossil fuels.
6. No exemption of small-scale systems from authorization. / - Adapt legislation as such.
7. Number of permits required is going up to 40 (wind energy in Greece and Cyprus). / One-stop shop.
8. Grid connection and access problems (both within the country and within neighbouring countries), because they are not ensured by law, there is resistance by TSOs and DSOs (Distribution system operator) and the fact that the existene of old infrastructure demands huge financial support. / - Extension of existing electricity networks and their development into smart networks.
Enhance cross-border trade in electricity between member states by increasing interconnection capacity.
Establish a priority grid access for electricity by RES.
Deregulate energy markets more.
Introduce an efficient sanction scheme for TSOs and DSOs.
9. Limited information and awareness on RES benefits, on support measures, pilot projects and insufficient funding for information campaigns. / Prepare the public to accept the impact on landscape from large RES projects.
Dissemination of best practice projects.
10. Barriers for build environment (40% of final energy demand in Europe is consumed in buildings), because of lax energy performance, requirements by national laws, conservativeness of construction industry, lack of financial motives, problems in tenancy and property laws. / Exemplary role of public buildings.
Establish renewable energy obligations for new buildings.
Make clear that areas under monument protection will be useless derelicts if they do not have modern provisions of energy and water.
11. Lack of certification schemes for installers due to lack of certification bodies, lack of training and guidelines. / - Mandate member states to appoint such a body both at a national and european level.
12. Lack of market transparency and market prices not including the external costs of energy. / - Establish a monitoring body both at national and international level.
- Promote deregulation.
13. Old fashioned legislation tailored to use fossils instead of RES. / Adapt legislation.
14. Non-intentional barriers such as complete lack of administration procedures because there is no demand for them. / Adapt legislation.
15. Heterogeneous application of laws: contradictory fragmentation of political competences (region, provinces and municipalities). / Adapt legislation and provide one-stop shop at a cental agency.
16. Delay or lack of promotion in biogas because of lack of infrastructure, equipment and incentives and due to the precence of bureaucracy. / - Introduction of subsidies.
- Develop legislation with regard to access and grid codes etc.
17. Delays in establishing district heating or cooling. / - Disseminate examples from Scandinavian countries and provide the know-how.
- Create incentives.

Note: The table has been summarized from ECORYS (2010).

3. The fixed management stochastic frontier approach for ineffieciency measurement

The concept of technical efficiency has been widely used in a variety of benchmarking applications; in the banking sector (Behr, 2010), dairy firms (Yélou et al., 2010), manufacturing firms (Bhaumik et al., 2011), sawmill industry (Helvoigt et al., 2009), container ports (Cullinane, 2006), oil and gas industry (Managi et al. 2006), fisheries (Tingley et al., 2006), pig finishing farms (Van Meensel, 2010), wind farms (Iglesias, 2010) to quote only a few of the most recent. However, none, to the best of the author’s knowledge has applied the frontier analysis and more specifically the fixed management stochastic frontier (Alvarez et. al., 2006) or the management adapted efficiency frontier from now on, method country-wide or particularly in the European countries growth framework with an emphasis on renewable energy as an input. Typically studies across countries perform cointegration and causality analyses between GDP, renewable energy and other factors (Menegaki, 2011; Apergis and Payne, 2011) and they do not perform any benchmarking, except for cases where a country is evidenced to contribute to heterogeneity and therefore it can be included as a dummy variable for a more precise reflection of the long-run relationship among the variables.

The main advantage of the stochastic frontier approach over fixed effects panel regression models (Bhaumik et al., 2011) is that it can provide evidence not only on whether or not the average country has GDP efficiency hysteresis in our example, but also it estimates a measure of the degree of the hysteresis for each country and ideally for each time period (however, time was not significant in the current application), and also the marginal impact of country characteristics on this measure. While incorporating heterogeneity in the conventional and random frontier models did not lead to the generation of significant models and therefore could not disentangle the contribution of specific inputs or countries to heterogeneity, the management adapted efficiency frontier model was significant and could provide some equivalent explanation for the disparate progress European countries have made on renewable energy resources penetration in their economies. To start with,observing the graph of RES and GDP (Figure 2), it becomes evident that there are factors other than wealth or the size of inputs an economy is using in its production process that affect the penetration of RES in it, because we observe countries with a high GDP and a very low attainment in RES and vice versa.