Turkey power market set for expansion

Turkey turns on the power

Istanbul - Turkey

With a population equivalent in size to Germany, the potential for the growth of the Turkish power market is huge. Since the implementation of the Electricity Market Law in 2001, regulators have made substantial moves to open up the country's markets, and reduce government control of foreign trade and outside investment. And the results have been impressive; Turkey's economy grew by an average of 4.9% per annum from 2000 to 2007.

Demand for electricity reached 162 terawatt hours (TWh) in 2008 and has grown rapidly over the past two decades, particularly between 2000 and 2008, averaging 8.8% per annum. Demand declined by around 2% from 2008 to 2009 as a result of the economic crisis, according to data from the International Energy Agency (IEA).

Analysis indicates that energy demand could recover to between 336 TWh and 357 TWh by 2018. "Turkey will likely see the fastest medium- to long-term growth in energy demand among the IEA member countries," says Nobuo Tanaka, executive director of the IEA.

Today, the Turkish electricity sector is modelled on the European Union (EU) market structure and a transparent regulatory framework has been set up by an independent authority, the Energy Market Regulatory Authority (EMRA).

Paul Constantinou, sales manager for global trading software provider Trayport, says the progress Turkey has made so far is encouraging. "Turkey is a market that has huge development potential and is already undergoing a liberalisation process that is seeing significant change," he says.

Turkey's security of supply issues are the key reason why it has lagged behind other markets in terms of liberalisation, according to Constantinou. Turkey has historically been dependent on external imports to meet its energy needs. The bulk of Turkey's natural gas is imported from Russia (roughly 60%), but political conflicts between the governments of the two countries have hampered Turkey's energy security.

In 2002, both countries completed the 16-million cubic metre per day capacity Blue Stream pipeline, which runs from Izobilnoye in Russia below the Black Sea and all the way to Ankara. However, price disputes between Turkey and Russia delayed the inauguration ceremony until the end of 2005.

"The regulatory authorities didn't have the power to control market participants, so the market was totally open to manipulation. But after the global economical crisis there was a drop in the volume of private-sector bilateral trading for at least six months. This gave the regulatory authority the opportunity to control and develop strategies on a number of issues," Constantinou says.

Substantial changes still need to be made to fully free up this market and encourage more market participation. The majority of electricity market regulation is still in draft form, major power contracts remain subject to government control and Turkey still lacks an organised platform for trading of power, a tool deemed essential by experts to encourage a more liquid and transparent marketplace.

Another key barrier is the speed of construction of new investments, which is likely to create a shortfall in capacity in 2011 or 2012. Analysis shows that total capacity should reach over 3,000 megawatts by 2018 but only 33% of planned new capacity has reached 15% of completion and 66% is still between 0-10% of completion, according to data from global advisory firm Deloitte.

"Turkey's dependency on electricity imports from other countries is high, at around 58.6%, which is a concern as these countries can prevent Turkey from establishing its own markets," says Constantinou.

If Turkey is to become one of Europe's major players in the power sector and attract the foreign energy companies and financial institutions required to build liquidity, then an official trading platform must be established and crucial regulatory progress must be made.

Barriers to OTC platform

The volatile price of electricity in Turkey, largely due to capacity supply issues, has hampered the development of an OTC platform.

Historically, the majority of power trading in Turkey has been based on bilateral agreements, which involve the purchase agreements between the wholesalers and the electricity producers.

However, since 2006, the government has attempted to create more competitive pricing through a balancing and settlement system. The mechanism is based on a day-ahead pricing system, whereby suppliers estimate how much electricity they will produce in each hour of the next day. Consumers then try and estimate how much they will consume in each corresponding hour. The data is then submitted to the market operator, who in effect acts as a mediator between the two parties and tries to estimate whether supply will meet demand over the course of the next day, and determines a system marginal price – a unified price that reflects both the short-term supply and demand of electricity.

"This part of the market has now become more widely used by participants than that of bilateral trades, because most players determine their prices from this market," says Ozan Karaduman, legal counsel at Turkish law firm Mehmet Gün & Partners. "It's made the market more evolved and reliable," he adds.

Market analysts are positive that the current balancing and settlement system is an important step towards the establishment of an OTC market for electricity trading in Turkey.

"If the capacity supply issues were solved so that there wasn't such price volatility then an OTC market could be established again and this is likely to create an associated exchange market with an initial 70:30 ratio OTC to exchange trading," says Constantinao. "This is entirely possible now and so it will not take too much time to create an OTC market that is stable and liquid."

According to Sibel Çetinkaya, energy and resources industry partner at Deloitte's Turkey office, initiatives to establish an OTC trading platform are already underway. "Once the current dynamics of the market and increasing amount of wholesale trade are taken into account, together with the participation of foreign players with sophisticated trading experience, I expect to see OTC trade not to far in the future," she says.

Ready for foreign investment

A crucial boost for the development of an OTC market for power in Turkey will be the increase in foreign participation.

Deloitte's Çetinkaya says Turkey's electricity market is ripe for foreign investment. "There is no regulatory disadvantage for foreign investors, and the subsequent interest from foreign entities proves this," she says.

Many European energy companies have already been operating and have started investment in Turkey, including German utility RWE, Czech utility CEZ, France's EDF and Italy's Edison.

But smaller energy market participants could be put off by the lengthy and complex nature of the licence application process. Turkish law requires participants seeking business opportunities in the Turkish electricity sector to apply for a licence from the EMRA. Acquiring such a licence requires the foreign company to set up a local office and a to acquire a large amount of permits from various bodies.

"From the investor perspective, the biggest problems occur because of bureaucratic hurdles and non-disciplined strategies," says Okcun Sahin, CEO of Turkish energy company Navitas Enerji. "The lack of communication between state companies is creating problems in the process of licencing and operations," he adds.

But Mehmet Gün & Partners' Karaduman argues that the government is eager to attract foreign investors to Turkey after the results of the economic crisis. "There are certain standards that investors have to comply with and the EMRA is attentive in this respect," he adds.

Investment will be aided by the Turkish government's ambitious plans for its power sector growth until 2020. It plans to pour into the sector some $100 billion of investment. "This makes the Turkish power sector one of the best business opportunities for foreign manufacturers, suppliers and experts in the field in addition to other sectors," says Bill Gebhardt, head of European power trading at Deutsche Bank.

Poor connection

But another area where Turkey is lagging behind other regions in Europe is its level of interconnection with the rest of the continent.Çetinkaya says there are two main issues: "The question is, how physically compatible the Turkish system is with Europe's, in terms of frequency and reliability? And Turkey's level of transfer capacity has to be increased," she says.

Turkey's transfer capacity with its neighbouring countries (Greece and Bulgaria) is currently very limited.

An important development in this area will be Turkey's plans to start a synchronous parallel operation with the European grid - ENTSO-E - on September 18. The connection will initially be made via Greece and the first year will serve as a trial operation.

According to Deutsche Bank's Gebhardt, once Turkey has proven that it can be interconnected with the rest of Europe, this will send a positive signal to the region. "Once the design of the cross-border capacity allocation mechanism has been published, wholesale traders will be able to evaluate the attractiveness of the Turkish market," he says.

Looking much further ahead, there are plans to create an under-sea connection to Romania and establish connections with Georgia and Azerbaijan to the northeast, Iran and Iraq in the southeast, and Syria in the south. Plans for a fully integrated grid connection between Turkey, Iran, Iraq, Syria, Lebanon, Jordan and Egypt have been envisaged for some years but are yet to be realised.

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