General considerations

Eastern Europe has a long tradition in energy subsidies, that goes back to the socialist regimes in place

before 1990. Even if most Eastern European countries have now embarked on a „quest” for

democracy, energy subsidies still remain an integral part of their economy. Subsidies may take a variety

of forms and are addressed to both companies and individual consumers. A number of companies

have benefitted from subsidies for electricity and natural gas, but investigations carried out in the past

years showed that in many cases subsidies were granted by government officials in exchange for

bribery. The production of clean energy – from wind, water and solar sources – is also subsidized,

utilities receiving green certificates for the energy they produce. Utilities now get two certificates per

megawatt-hour of wind power, three for hydro and six for solar, although a plan is in place to cut

subsidies by half starting with 2017.

Home heating may also be subsidized by the state. Local councils have to authority to award subsidies

to producers and distributors of home heating so that the price paid by final consumers for public

utilities is considerably lower than the market price. Paradoxically, Bucharest is one of the cities in

Romania where the cost of home heating is still heavily subsidized although it is also the city with the

highest GDP per capita in Romania and by far the city with the highest living standards in the country.

Its inhabitants are on average wealthier, better educated and therefore have a much better capacity

to support the cost of the energy they consume than inhabitants from poorer regions. Still, home

heating continues to be subsidized by over 50 per cent by the local authorities, which translates into

a cost of approximately 112 million euros per year for the municipality – almost 10 per cent of its total

annual budget!

Case under scrutiny: Subsidizing heating costs in Bucharest

The subsidy is paid directly to the main heating distributor, which is a state company controlled by the

local council and who buys heating agent from power plants across the city. At the time being, this

company (RADET) has a debt of over 700 million euros to be paid to the main energy producer (ELCEN)

and another 8 million euros to suppliers of natural gas and water. This debt was incurred over the past

25 years and is expected to rise even more due to penalties. This puts RADET in a very delicate position

since ELCEN recently threatened to stop the provision of heating agent if the distributor fails to pay

its debt in the following months. Moreover, the large debt prevents the company from making highly

needed investments in the distribution system. The piping system now in place for the distribution of

heating agent to the local population dates back to 1963 and it is estimated that approximately 40 per

cent of the heating agent is lost on its way from the plant to the final consumer due to the

infrastructure’s poor condition. This means that in the case of a major breach in the piping system the

company would not have the resources to repair the breach and home heating in some neighborhoods

may cease to be provided. Since the company currently provides heating to over 1.2 inhabitants in 0.6

million apartments, as well as to over 300 companies, 100 schools, 76 kindergartens and day care units,

22 hospitals, 42 high schools and 27 universities, the consequences of such breaches could be

profound.

Proposals have been put forward in recent years to privatize the company and cut back on the

subsidies. However, politicians continue to use subsidies as a leverage to gain votes from the poorer

population and several left-wing MPs publicly asserted their support for heating subsidies. Still, data

published by A.T. Kerney consulting firm shows that the cost of energy would be up to 25 per cent

lower if inefficiencies in the production and distribution systems would be eliminated. This means that

if at least part of the money spent on subsidies would be invested in the renewal of the current

infrastructure, inefficiencies and losses would be drastically reduced and the price paid by the final

consumers would remain affordable since the costs of production and especially distribution would

decrease significantly.

The company estimated that in order for losses to be eliminated, approximately 100 million euros per

year would have to be invested in infrastructure, over the course of 10 to 12 years. Since the company

is not profitable (it incurs losses of approximately 70 million euros per year), investments are put on

hold. Moreover, investments in the house heating sector are not eligible to be funded from European

structural funds under the current financing framework.

Possible solutions

First of all, privatization and/or employing private management would make the company more

market-oriented since private investors are motivated by economic returns and would thus be more

likely to work towards reducing inefficiencies and costs;

Secondly, a long-term loan, guaranteed by the state, could be used for investments in the distribution

(piping) system. The loan can be contracted even if the company remains under state property; in this

case, the loan will be contracted from the treasury and not from a commercial bank. At the time being,

the annual turnover of the company is of approximately 160 million euros, but losses of over 70 million

are incurred annually. The goal is to raise the efficiency of the distribution process so that the company

would become profitable on long term;

Thirdly, as distribution costs decrease and losses are cut down (following investments in

infrastructure), subsidies could be gradually decreased (e.g. by 5-15 per cent annually). Moreover,

statistical data (data on poverty, social exclusion and housing is currently available at the regional

statistics bureau) could be used to assess the need to grant subsidies for the population that cannot

afford to pay for the heating at real market prices. An impact study should also be carried out to assess

the social and economic effects of such subsidies on long term (for example, if families who benefit

from subsidies are more likely to send their children to school);

Last but not least, the partnership agreement for European funding (between Romania and the

European Commission) for the period 2021-2027 should include provisions for investments in energy

distribution. The Regional Operational Program (financed under the European Regional Development

Fund) could be used to fund such investments so as to increase energy efficiency and prevent climate

change (the heating agent distributed by RADET and other heating agent distribution companies in

Romania is generally produced with the use of fossil fuels).