Absence of a market in the Dutch balancing mechanism: European rules versus specific investments

The European directives for the electricity industry prescribe the creation of a market for balancing electricity supply and demand. In this paper, we demonstrate that a market for balancing has not emerged in the Dutch electricity industry, and that, instead, the balancing transactions are governed by regulated, long-term contracts and a bidding mechanism. We explain the absence of a balancing market by using the framework of transaction cost economics, in which the efficiency of a market decreases with increasing investments in specific assets. The results of a questionnaire among the energy firms that supply balancing power in the Dutch setting show that these firms have invested in specific physical, temporal and dedicated balancing assets. The need for these specific investments to balance supply and demand does not only explain the absence of a market, but also the lack of participation by small firms in the balancing mechanism. We recommend several policies, such as stimulating technological developments for the storage of electricity and demand side management, which reduce these specific investments in balancing assets, and thereby stimulate the creation of a market and the participation of small firms.