3 Insufficient cross-border capacity-mechanism coordination

EU criteria to assess capacity mechanisms were first introduced with the 2014 guidelines on state aid for environmental protection and energy (EEAG; European Commission, 2014). An EU energy framework reform, the Clean Energy Package, adopted in 2019, then provided a binding rulebook of preconditions for the introduction of capacity mechanisms:

A capacity mechanism must be based on a resource-adequacy concern, substantiated by a medium to long-term resource-adequacy assessment. The introduction of a harmonised resource-adequacy assessment represented an improvement compared to the pre-ceding EEAG framework (Florence School of Regulation, 2024).
Capacity mechanisms can only be introduced if adequacy concerns cannot be alleviated by removing market distortions.
Priority is given to strategic reserves as a means to address adequacy concerns, with some leeway in case reserves prove insufficient.

Additionally, the Clean Energy Package facilitated cross-border participation of capacity providers and required no specific type of resource be favoured (Roques and Verhaghe, 2022; Florence School of Regulation, 2024). It also put forward design principles on the demand side, aggregation, technology neutrality and emissions limits. While moving towards a more rules-based EU-wide governance approach, capacity mechanisms were not seen as a standard feature but were considered a measure of last resort. The subsequent 2022 guidelines on state aid for climate, environmental protection and energy provided further guidance on the design of capaci-ty-remuneration mechanisms (European Commission, 2022).

In response to the energy crisis brought about by Russia’s invasion of Ukraine, and the changing nature of the power system with the large-scale development of renewables, the role of capacity mechanisms fundamentally changed from a measure of last resort to a ‘structural’ feature of the EUs electricity market design, as proposed in the EU’s 2024 electricity market design reform (European Com-mission, 2024). As part of this major reform, attention was focused on the role of non-fossil fuel flexibility in ensuring adequacy, in the form of demand-side responses and energy storage, thereby emphasising the need for the EU to meet its climate targets.

In 2025, the European Commission adopted the Clean Industrial Deal State Aid Framework (CISAF), via which new rules for capacity mechanisms have been adopted. However, it remains to be seen whether CISAF will: 1) accelerate convergence of national capacity mechanism designs across the EU, and 2) enable faster approval by the Commission (Eurelectric, 2025; European Commission, 2025).

In summary, the focus so far at EU level has been on ensuring that capacity mechanisms do not have significant adverse effects on the operation of the internal electricity market. Limited efforts have been made to encourage more cross-border coordination of capacity mechanisms, but these have not led to substantive progress on cross-border cooperation.

Countries trade different forms of capacity and cross-border exchange of these remains limited. For example, the costs of capacity in national mechanisms in the EU differ widely, ranging in 2024 from €13 per kilowatt for the Finnish strategic reserve, to €33/kW for the French capacity mechanism, to €76/kW for capacity procured for the German strategic reserve.

Without mandatory coordination rules and enforcement mechanisms (eg in state aid approval) for cross-border elements, current EU rules fall short of fostering the integrated and efficient development of adequate capacities in a regional or European setting.

4 Capacity mechanisms differ significantly

The term ‘capacity mechanism’ covers a range of different instruments that serve the purpose of ensuring adequate capacity. They differ widely in type and scope. Price-based mechanisms set a fixed payment for capacity, while quantity-based mechanisms procure predefined amounts. Figure 3 shows a scheme of the main types of price-based capacity mechanisms implemented and discussed by EU countries, while Figure 4 shows which types of capacity mechanism different EU countries have implemented, or whether they are currently being developed.

Figure 3: Main types of capacity mechanism

Source: Bruegel.

Figure 4: Status of capacity mechanisms in the EU

Source: Bruegel based on ENTSO-E (2025) and ACER. Note: Germany currently has a strategic reserve, with a capacity market under discussion (Box 2). In addition, many central and eastern European EU countries have legacy schemes that resemble capacity markets or strategic reserves, eg in Romania, Bulgaria and the Balkans. Czechia, the Netherlands and Sweden are discussing the introduction of capacity mechanisms.

Governments of course play important roles in terms of security of electricity supplies and adequacy issues, most importantly by setting reliability targets, ie defining the trade-off between the cost of the mechanism and the acceptable risk of unserved load. They also decide who can or must participate in capacity mechanisms. The definition of what is being procured via a capacity mechanism is also important and varies across countries. Variable elements can include availability during peak hours or firm capacity for longer shortages. Designs of mechanisms also need to clarify how far in advance capacity should be procured, duration of delivery periods and whether what is procured is differentiated according to location. Commitment formats vary, from upfront payments to contracts with penalties or performance obligations, shaping how providers manage risk and ensure reliability. While the procured capacity is typically paid the same amount per kilowatt per year, capacity with less availability, such as renewables, would typically be derated. One potential problem with procured capacity, as shown by experience in the United States with some of the early capacity mechanisms, is that availability may not be guaranteed when needed most (Batlle et al, 2015; Rose et al, 2014; Cramton, 2022; CAISO, 2021).

National capacity mechanism design reflects the multitude of choices involved, each influenced by national priorities (Figure 3), energy mix, regulatory capabilities and market structures. A typology of the different mechanisms would include the following categories:

4.1 Market-wide capacity market

In a market-wide capacity market, resources are procured to ensure that the power system can reliably meet peak demand, limiting the risk of electricity shortages to reach the reliability standard. Capacity payments reflect the value of the obligation to remain available when needed. Producers are also compensated for delivered energy through sales in the wholesale market.

These capacity markets can be centralised or decentralised. In centralised capacity markets, a designated public authority – eg a system operator – assesses system-wide capacity requirements and procures sufficient resources to ensure reliability. This raises the question of the incentives and governance of the system operator in procuring capacity. One potential problem, especially with centralised capacity markets, is that system operators tend to over-procure because of their risk adversity (Newbery and Grubb, 2014).

In a decentralised capacity market, individual buyers – such as electricity suppliers or distribution companies – procure the capacity needed to meet their obligations to procure a certain margin over the demand they expect. In this model, adequacy is a shared responsibility, with market participants responding to their own forecasts and obligations rather than adhering to a central plan.

One possible refinement in the design of market-wide capacity mechanisms is to connect them explicitly with energy price hedging mechanisms, often referred to ‘reliability options’. Organising such capacity markets and their interfaces with energy markets involves substantial complexity. Some evidence shows that reliability options may have contributed to reduced availability of capacity (McRae and Wolak, 2019). Reliability options can increase the risk for producers and thus are often accompanied by a stop-loss mechanism, which in turn may distort availability incentives.

To work properly, sellers in capacity markets need to be certified, which can be a cumbersome and relatively costly process, especially for smaller players. To foster the participation of small players, mechanisms such as aggregation are possible.

Another issue that requires attention when designing capacity mechanisms is their interplay with competition policy, particularly in concentrated markets. Addressing such market-power issues is possible but implies further sophistication of the tool, through, for example, bid caps and monitoring.

Partly for the reasons outlined above, capacity markets are often complex to implement and especially in the first years require substantial resources from the transmission system operator (TSO), regulator and market parties. This has led to concerns, such as in the US, that regulators may not have enough competence and resources to regulate this complex market (Aagaard and Kleit, 2022). However, recent efforts in Europe to streamline and define a standard design for capacity mechanisms under CISAF rules could alleviate to some extent this burden.

4.2 Targeted options

Targeted options, such as procurement of a strategic reserve by the system operator, are an alternative to the market-wide capacity market. Strategic reserves are typically only activated when there is a shortage of power. The reserve cannot take part in the power exchange and is compensated separately through a capacity payment. Production outside the reserve does not receive any capacity payment.

Holmberg and Ritz (2020) identified circumstances in which the strategic reserve is as efficient as an energy-only market and a market-wide capacity market. However, inefficiencies in relation to strategic reserves can arise when, for example, it is efficient to use a plant in the reserve before a plant outside the reserve (Bublitz et al, 2019).

Strategic reserves have historically typically been seen as a second line of defence to manage the pace of decommissioning of existing plants, activated outside the power market to handle temporary shortages, while capacity markets are designed as a structural complementary mechanism to the energy market to ensure efficient investment decisions. Accordingly, capacity markets are more complex than strategic reserves, though EU rules now require the latter to be open to all technologies, which reduces the distinction. In the ideal design, reserves are fully isolated from the market and hence do not affect spot prices. In the past, mainly existing plants have been shifted from the market into the reserve. This implies higher spot prices, and thus indirectly encourages new capacity, including small-scale investments.

Tenders, another form of targeted capacity mechanism, are one-off auctions or calls for proposals to provide a specific amount of capacity. As the years-long discussions on the German government plan to tender 20 GW of gas-fired capacities illustrate (Box 2), obtaining state-aid approval for such tenders is difficult and uncertain.

In summary, reserves and tenders are simpler and focused on short-term adequacy, while capacity markets are structural mechanisms aimed at long-term adequacy, but are associated with greater complexity.

5 Capacity mechanisms in one country can impact other countries

As national capacity mechanisms become increasingly important in shaping investment decisions in the power sector, questions arise about the dynamic implications of such mechanisms in driving investment choices – for instance, if they could induce overinvestment or investment in the wrong locations/types of capacity, and the associated implications for costs to consumers in the long term. In particular, poorly coordinated and/or designed national capacity mechanisms can lead to a range of issues that could undermine the reliable and cost-effective supply of electricity across borders.

One danger is overinvestment resulting from an uncoordinated determination of capacity needs, and bias on the part of national decision-makers that leads them to underestimate non-domestic contributions. Overcapacity might also stem from inconsistencies between national, rather than EU-wide or at least regional, scenarios used in adequacy analyses to determine capacity demand. In addition, the methodology for determining potential cross-border contributions could be improved, as, for instance, it often neglects contributions from more distant bidding zones.

Inefficiency could also result from being unable to access the most economic sources of available capacity in the absence of efficient cross-border participation. Most capacity demand, in particular costly new-build capacity, is currently procured several years ahead of the delivery period in auctions that are, in practice, not open to cross-border competition. In addition, revenues from cross-border participation in a capacity mechanism can be very limited (as shown by Menegatti and Meeus, 2024) if the cost of booking transmission capacities from transmission system operators (TSOs) is very high. As a consequence, cross-border participation can become unattractive, even when economically efficient.

A major driver behind this is that EU countries distrust the functioning of the EU electricity market during scarcity events (Roques and Verhaeghe, 2022). Because of fears that cross-border transmission capacity will be reduced, or flows limited in times of scarcity, reliance on cross-border capacity may be perceived as riskier than domestic procurement. Reducing cross-border capacity or limiting flows in such scenarios would violate EU internal market rules, but perceived doubts about the enforceability of those rules may skew procurement of capacity in capacity mechanisms in favour of domestic suppliers. National TSOs may also be reluctant to consistently maximise the interconnection capacity available for cross-zonal trade, as they may need to keep margins to manage some operational issues.

In contrast to the risk of overinvestment, some countries might be tempted to freeride on capacity remuneration across the border to contribute to national adequacy. Since internal market rules prevent restrictions on foreign access to domestically procured capacity, capacity mechanism benefits spill over to neighbouring markets. Without coordination of reliability standards and responsibility for cost recovery, freeriding may arise, creating fairness concerns and risking under-procurement. This risk could materialise even unintentionally. If a capacity mechanism in one country leads to overinvestment and lower wholesale prices in tight market conditions in neighbouring countries, the profitability of plants in those connected countries will be reduced. If the latter are not backed by a capacity mechanism, some might be closed. When capacity mechanisms in one country crowd-out capacities in connected countries that do not have capacity mechanisms, the original adequacy assessment might be undermined.

Lastly, many non-coordinated rules and methodologies, such as the determination of national reliability standards or derating factors, may cause unintended consequences and undermine the efficient functioning of cross-border capacity mechanisms. Moreover, with numerous national capacity mechanism designs (rather than a single European design) interacting with other electricity-market segments (hedging, short-term, ancillary-services, potentially upcoming flexibility instruments), there is a risk of increased complexity that could undermine effective competition.

This will likely require several fundamental issues to be addressed: 1) inconsistent input data across national systems; 2) limited transparency of modelling of adequacy assessments, which are insufficient to understand the dynamics that drive the results; 3) regulators with constrained tools, effectively limited to a last-resort veto over the entire process; and 4) potential institutional and governance issues that may warrant shifting some responsibilities from national TSOs to an independent European public authority.

Such cross-border impacts are likely not only a marginal issue. In many EU markets, interconnector capacities could theoretically contribute a very significant fraction (for example, 40 percent in Germany) of the domestic peak load (Stiewe et al, 2025).

6 Coordination principles and the way ahead

Capacity mechanisms, with all their potential complexities and inefficiencies, are set to become a standard feature of the EU electricity system. To make them more fit for purpose and to promote efficiency across Europe, a more coordinated approach is needed. While a uniform capacity mechanism in Europe might be impossible (or indeed undesirable, because of complexity and underlying differences in the adequacy issues), the intermediate stages merit careful consideration. Menegatti and Meeus (2025) have proposed a stepwise approach to implementing regional capacity markets to overcome the problems of selecting the least-cost generation and to avoid under- and over-procurement (as we have noted above). We support the idea of a stepwise development of existing capacity markets, which could be done as shown in Figure 5.

Figure 5: Possible development pathway for capacity mechanisms in Europe

Source: Bruegel.

Arriving at commonly accepted principles is a highly political exercise, as national prerogatives, preferences and perceived benefits must be balanced carefully among partners to reach a common solution that is efficient and also makes all parties better off. The more partners trust each other, accept some delegation of sovereignty and accept some distributional effects, the more transparent, simple and efficient the system can be.

While national preferences are safeguarded, complexity and inefficiency will dictate the joint system; the system as a whole will be complex to manage if many countries pursue separate bilateral agreements (though bilateral solutions allow two partners to align their needs). Regional arrangements thus substantially reduce complexity and the scope for inefficiencies, though they still require more individual compromises and still create inefficiency at regional boundaries. EU-wide solutions offer the greatest potential for efficiency. However, this level of integration would require harmonisation across very different systems.

The challenge is to design a system that is politically acceptable and practical so it can be operationalised and maintained with limited changes to the current institutional and governance arrangements. We propose five high-level principles to govern such a system: fairness, transparency, legitimacy, robust governance and solidarity.

Table 2: Principles for a politically sustainable coordination mechanism

Principle

What it means

Why it matters

How to implement

Fairness

Fair sharing of anticipated risks and costs (including within country)

Prerequisite for political agreement among EU countries

For example, rules on energy-sharing in joint scarcity situations, cost-allocation methods

Legitimacy

Broad acceptance and normative support from stakeholders

Reduces risk of non-compliance or exit

Inclusive consultation, procedural justice, adaptive review clauses

Transparency

Open access to methodologies, data and decisions

Predictability improves stakeholder behaviour, supports accountability and increases trust

For example, shared data platforms, harmonised monitoring, regular reporting

Robust governance

Clear institutions and processes

Builds stakeholder trust, and enables interoperability with other parts of the system

For example, network codes and guidelines, a rule revision mechanism with proper oversight and TSOs/RCCs*/ENTSO driving assessment/implementation

Solidarity

Commitment to mutual support in stress or crisis situations

Reinforces trust and aligns with EU Treaty principles (Art. 194(1) TFEU)

Explicit contingency arrangements, political signalling

Source: Bruegel. Note: * = Regional Coordination Centres.

These principles give rise to several recommendations for effective integration of national capacity mechanisms:

To coordinate national assessments of system needs effectively, the governance and transparency of the European power-system resource adequacy assessment (ERAA) should be improved to deliver an unbiased and widely supported basis for decisions. Integrating a more granular regional exercise could support the development of regional capacity markets.

Cross-border participation: the amount of capacity from specific neighbouring countries that is eligible to participate in each national capacity mechanism should be optimised by coordinating their computation, to get the most out of the potential pooling of adequacy reserves, while still respecting national prerogatives and operational constraints.

Product design: an acceptable level of harmonisation and coordination of product design should be found, to ensure what is purchased via capacity mechanisms reflects common adequacy goals and is deliverable across borders, whilst recognising the necessary differentiation to reflect local adequacy issues.

Management of system-stress situations: additional operational agreements to manage major simultaneous system-stress situations could be implemented, at both technical and political levels.

Cost-sharing agreements: Efficiency gains from cooperation are not spread evenly, Therefore, clear and transparent cost-sharing agreements will be needed to dispel concerns about freeriding and to incentivise joint approaches to resource adequacy assessments and capacity procurement.

The current national framework for the governance of capacity mechanisms is ill-equipped to sustain the development of regional capacity markets. The following steps should be taken:

A regional approach to capacity mechanisms would require alignment of responsibilities and adequate coordination between the different responsible entities, whether ministries, regulators or TSOs.

Similarly, the EU state aid framework could be adapted to facilitate the implementation of regional/joint capacity mechanisms. One of the main issues is that the process foresees national submissions of schemes for approval. Thus, the EU Electricity Regulation (Regulation (EU) 2019/943), which governs the internal market for electricity, should to be updated to include provisions on regional capacity mechanisms.

Figure 6: Key elements for effective integration of national capacity mechanisms

Source: Bruegel.

Taking these steps will requires a political process in which trust is built in the discussions between stakeholders. The EU could require countries to engage with their neighbours in regional agreements, both operationally and politically, as a precondition for approving the capacity mechanisms EU countries want to implement.

This could be informed through guidance from EU countries on their political appetites, especially for trade-offs relating to sovereignty versus simplicity and efficiency. By clarifying the political boundaries, a compromise (and therefore convergence) might be more easily achievable.

After what member state can accept has been clarified, the European Commission should propose a framework for an enhanced cross-border participation framework and a regional approach to capacity mechanisms, as the basis for negotiation on a workable system. Compromise could be incentivised by clarifying that failure to reach an agreement will result in an imposed outcome, rather than one reached through the direct inputs of EU countries.

Implementing these principles and recommendations in the development of the European electricity market would help ensure the efficient operation of Europe’s power system, while supporting investment in the right capacities in the right places at the right time. The alternative – sliding back to largely isolated national electricity systems – would carry real risks for the common European market, and would ultimately be unnecessarily expensive for European consumers.

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