Electricity Tariff Reform Reduces Wholesale Price Dependency by 40%

Starting January 1, the Voluntary Price for the Small Consumer (PVPC) sees a significant shift away from its previous dependence on wholesale electricity market prices. This change, initiated by the Spanish government, aims to provide greater stability in electricity pricing.

The PVPC, a system established in 2014 by the administration of Mariano Rajoy, had originally relied solely on the wholesale market, which proved problematic during the energy crisis triggered by the Russian invasion of Ukraine. In 2022, wholesale prices surged, averaging over 200 euros/MWh, leading to severe consequences for consumers.

Following the stabilization of energy prices in mid-2023, the government revised the PVPC calculation method. This new approach incorporates a mixed pricing model, where the daily spot price will contribute 45% to the tariff, while forward prices will account for the remaining 55%, gradually implemented over a three-year transitional period (2024-2026). For the first year of this adjustment, the ratio was set at 75% for spot prices and 25% for forward prices, with an annual increase of 15% in the forward price component until it reaches the target 55%.

As of now, the electricity price derived from forward markets will represent 40% of the regulated tariff calculation, transitioning from a previous model that relied entirely on the daily price signals. This realignment aims to harmonize Spain's electricity pricing with practices in other European nations.

Whether this reform will lead to a reduction in the regulated tariff is contingent upon seasonal demand fluctuations. Analysts indicate that when energy demand falls below the average reflected in forward prices, tariffs may increase; conversely, they may decrease when demand exceeds these averages. Currently, lower demand is observed, but the new system is designed to minimize the volatility characteristic of the previous wholesale market structure, which fluctuated significantly.

Although the revised PVPC was introduced in July 2023, suppliers in the regulated market, including major companies like Endesa, Iberdrola, Naturgy, and Repsol, were given a six-month window to adapt their energy procurement strategies in alignment with the new rules. This involved hedging energy contracts for 2024 across various timeframes.

As winter approached, the previously observed decline in electricity prices reversed, raising concerns of uncertainty primarily driven by rising international gas prices. Recent weeks have seen prices surpassing 100 euros/MWh, largely due to reduced renewable energy generation caused by lower solar and wind activity.

On January 4, the average electricity price stood at 111.57 euros/MWh, down from 122.34 euros/MWh the previous day, reflecting the adjustment in the PVPC framework. The new pricing mechanism will ensure that these figures only partially influence the tariff, as the remaining 40% will be tied to future market prices, which are currently projected below 51 euros/MWh for the second quarter.

Moreover, data from the system operator indicates a notable uptick in electricity demand, with a 1.4% increase in 2024 compared to the previous year, despite a backdrop of declining consumption trends over the past two years.