Reimagining Energy – the future of the heat sector in CEE

CEE

One of the main challenges in meeting the EU-wide objective to have a climate-neutral economy is the decarbonisation of the heat sector. Heating and cooling account for about 50% of energy demand in the EU and a number of EU countries are largely reliant on fossil fuels to meet this demand. Massive changes will inevitably have to occur, particularly in Central and Eastern Europe (“CEE”) where the heat sector is unique due to its geographical and historical background.

Two features of the heat sector are common across CEE countries. Firstly, the heat sector in many of these countries remains widely reliant on solid fossil fuels, especially hard coal and lignite. Secondly, a larger number of users are connected to large district heating networks which were originally developed during the socialist era with the central planning of the economy. In this article we will consider both of these features and how the sector is evolving.

The way forward

It is clear that eventually the coal and lignite will have to be replaced by alternative fuels. In some countries there are already so-called coal limits currently in force which restrict access to coal resources in some areas. These coal limits were introduced to protect the local environment. There is an ongoing debate over what should be the final date for using coal as a power source. The actual date when this will happen will inevitably differ country from country as in some economies (such as Poland or the Czech Republic) more than 50% of the heat generation is currently from coal and availability of alternative fuels is limited.

When it comes to decarbonization of the heat sector in the CEE, in the short to mid-term, natural gas is particularly discussed as a key enabler of a relatively swift transition towards cleaner power. It is understood that the natural gas industry also significantly contributes to the global carbon footprint, however given the difficulties of sourcing alternative fuel options it appears that in many regions it will not be possible to remove coal entirely from power production without burning more natural gas. The future rise of global demand for gas is likely to lead to further increase of already high gas prices, which are already making power production from gas substantially more costly than when burning coal or lignite from local mines.

Natural gas is ideally viewed as a transitional fuel that will eventually be replaced by other, cleaner, sources of power generation. Cleaner gases can be produced through diverse techniques such as methanisation, pyrogasification, micro-algae cultivation for biomethane or from water electrolysis for hydrogen.

Ambitious projects are already being considered in respect of large-scale production and distribution of hydrogen. German utility RWE together with Eustream and NAFTA, leading infrastructure operators in the CEE region, recently announced that they are looking to jointly explore the potential development of state-of-the art blue hydrogen production facilities in eastern Slovakia. To this end the companies have signed a Memorandum of Understanding. RWE could offtake and import the hydrogen produced to Germany and other RWE core markets in Western Europe. The hydrogen could then be transmitted through a re-purposed Eustream gas pipeline to Germany. In this context it is also considered that the carbon dioxide captured during the hydrogen generation could be stored within depleted natural gas fields in Slovakia or neighbouring Central Eastern European countries, including Ukraine.

Whilst innovative hydrogen technologies develop sufficiently to allow hydrogen to be widely used in the CEE power sector in a cost-effective manner, we observe implementation of other alternative fuel source projects in the energy sector. We work with our clients on the development of biomethane projects; more specifically projects related to biogas, to enable the blending of biogas with standard natural gas in the gas distribution grids. To be economically viable such projects arguably still need some level of government support. Such support is now often available, for example in the Czech Republic a new law was published in October 2021 which introduced a new scheme of operational support for biomethane projects.

Another alternative fuel which is expected to be used in more efficient and environmental friendly manner than has been historically the case, is waste. A number of waste-to-energy projects are being considered across CEE. Whilst these often face environmental challenges and some objection from local communities (especially if located close to residential areas), there are cases proving that implementation of such projects is possible.  One recent example is a project in the Polish municipality of Olsztyn on which CMS is acting for one of the involved parties. The project consists of a thermal waste processing installation to produce electricity and heat from municipal waste. The new power plant using refuse derived fuel will replace the coal-fired units. The use of coal in the Olsztyn district heating system is projected to fall from the current 98% to just 39%. According to local government estimates, the new investment will cover the demand for hot water for about 100,000 inhabitants. The project is financed through a PPP (public-private partnerships) scheme and thus provides the municipality with the possibility of implementing investment projects in cooperation with a private partner, providing savings and cost predictability over the lifetime of the project. The project was also the first energy project in Poland to receive a “Green Loan” worth over EUR 100 million.

In some regions geothermal energy is also being actively considered as potential new source for ensuring heating supply.  This is in particular the case of countries which sit over the Pannonian basin, namely Hungary, Slovakia, Austria, Romania and Croatia. Whilst helping to reduce carbon footprint, geothermal projects inevitably bring other environmental challenges and thus are not yet widespread. However, some of the first projects are already being implemented. According to sources in Hungary, geothermal already serves as a source for about 4% of the heat supply used for district heating in the country. 

Conclusion

We are positive that in the CEE regions there is both the political will and the societal agreement that an energy transition is necessary in order to achieve the climate goals, and that hard coal and lignite will have to be eventually replaced by other, greener sources of energy. The pace of such transition and the mix of alternative fuels will inevitably differ based on the specifics of particular regions. In a number of CEE states investments in natural gas infrastructure will be necessary to support the switch from coal, or to manage evolving supply-demand patterns, while at the same time preparing the energy system for the transition to renewable and carbon free fuels.

To some extent CEE may still benefit from its relatively high density of district heating systems developed in the major cities as well as smaller municipalities prior to 1990. Given their design and age such systems are however often subject to high energy losses (further amplified by the inefficient design and lack of insulation of the residential buildings built in the socialist era). Whilst in the last two decades some partial improvements have already been achieved, further investment needs to be made to increase the efficiency of the distribution infrastructure, the insulation of offtake buildings, the heat control systems and metering.

These necessary investments will be enabled by various support schemes introduced both at EU and local government level. There is an appetite across European countries to allocate substantial funds to subsidise and incentivise the energy transition (the heat sector included) and to meet the EU’s energy and climate targets. Various types of funds have been established for this purpose, such as the Modernization Fund, which provides funding (using funds generated from the EU emission trading scheme) to support 10 lower-income EU Member States (all of which are CEE states) in their transition to climate neutrality, by helping to modernise their energy sectors. The rising prices of emission allowances has helped to generate extra funds for this cause. The total revenues of the Modernisation Fund may amount to some EUR 14 billion in 2021-30, depending on the carbon price. To a large extent it is now up to national governments to define the best ways to allocate such funds, and to use them in the most efficient manner to decarbonise the heat sector in the region.

You may also be interested in our Reimagining Energy – Renewable Heat Law Now which focuses on the future of the heat sector within the United Kingdom.

Our Road to COP26 Reimagined series looks ahead and anticipates the issues and opportunities that climate change presents across a number of sectors and areas that impact our clients.

At CMS, we put our clients’ world at the heart of what we do. For this reason, we have a team of lawyers from across the firm from a range of different expertise areas who are actively engaging with the issues and opportunities that climate change presents. Our aim is to help our clients to navigate this rapidly evolving legal and commercial landscape whilst also providing the interested with more information about this growing area via this Insight section.

Our world reimagined, to put sustainability at the heart of everything we do.

This Law-Now is part of our Road to COP26 series. We will be analysing and reporting on the implications of these events for the agenda at COP – look out for further updates on our legal insight on our climate change and sustainability pages and COP26 insight hub.