Does State Aid arise when the State supports Monopolies?

The public sector, made up of public undertakings, joint ventures and undertakings controlled by the public authorities by means of holdings, varies in size from one EU country to another. The larger the public sector, the more difficult it is for the public authorities to resist the temptation to make the companies controlled by them the instrument of their economic policy, giving them, in return, a privileged position in various respects. When a privileged market position is created or maintained (whether for public or private undertakings) there is a serious danger of free competition being significantly compromised. This matter is taken very seriously in the EU as regards ensuring the optimal operation of its Internal Market. For Ukraine, a similar focus is needed in the light of the provisions of the EU-Ukraine Association Agreement.

Related to the Association Agreement commitment for the early introduction of a State aid regulatory system in Ukraine, in line with EU standards, the Law of Ukraine “On State Aid to Undertakings” (№1555-VII) (hereinafter – Law)was adopted on 1 July 2014. The Law will come into force in August 2017. The Law is a framework legal act that requires the adoption of the necessary secondary legislation within the given transitional period and in general is in compliance with EU State aid rules.State aid is defined follows:

State aid to undertakings means any form of support to undertakings through State resources or local resources which distorts or threatens to distort economic competition by creating advantages for the production of certain kinds of goods or for carrying out certain types of economic activities[1].

The definition of State aid contains cumulative criteria for a State measure or intervention to constitute “State aid” to exist: There must be a transfer of State resources, the conferment of a selective advantage and an actual or potential distortion of competition. Since these criteria are cumulative, all of them have to be present in order for a state measure to constitute State aid. Even if one of them is missing the measure is not a State aid and therefore not covered by the regulatory system created by the Law. A further criterion, which is clearly stated in EU Law[2], is implicit in the Ukrainian Law – there must also be an actual or potential effect on trade. In the context of Ukraine, this means trade with the EU but this can extend further to trade effects involving Ukrainian and EU undertakings operating in or competing in any international market.

The Law also establishes the Anti-Monopoly Committee of Ukraine (AMCU) as the”Authorised body”(in effect the national regulator) in the sphere of State aid control and monitoring in Ukraine. Moreover, the AMCUwill have significant regulatory powers; including the duty to have unlawful State aid returned once a State aid is found incompatible with competition[3].

In regard to the scope of coverage of the Law, relevant EU case law establishes that the content of each criterion is widely interpreted and therefore the notion of State aid itself is much broader than a simple subsidy[4]. However, in order to establish the existence of these criteria, a case by case consideration of individual State intervention measures is generally needed. When a measure does constitute State aid, there is wide scope for it to be approved on the basis that it is serving a wider public interest which outweighs a limited impact on competition. The assessment criteria on this point will be further clarified by the secondary legislation which must be adopted before the Law comes into force[5].

This Article considers one particular criterion in the context of State support to monopolies – the determination of an actual or potential effect on competition in such cases.

The presence of competition effects where the State supports or creates monopolies

In Ukraine, State-run monopolies are prevalent in the transport and utilities sectors, and often have a common theme that, due to the need to service an entire community and the high costs involved in entering the market, it is more efficient for a single entity to provide a service throughout the entire region than it would be for multiple competitors to compete for the provision of these services. One such example is a national postal system. Efficient postal services generally require the creation of an entire collection and distribution network. While competition may exist in certain areas of the postal service – such as special or guaranteed delivery – normal postal services are often regarded as best carried out by a single operator. If a State helps to finance such services then the question arises whether it constitutes State aid, whether it is acceptable State aid and whether the specific provisions on State monopolies are infringed as well.

There is the related matter of private undertakings which are entrusted with the operation of a service of general economic interest or have the character of a revenue-producing monopoly. This is the situation when the State has outsourced the provision of, for example, a utility to a third-party, private sector undertaking, and granted that undertaking an effective monopoly over the provision of a particular service so that it can properly fulfil the tasks that it were entrusted to it. Given the high demands, and the need to provide universal services – even where it may not be profitable to do so – States often need to entice private sector entities to undertake the required services by offering fiscal or competitive advantages, which is the reality for Ukraine as well. Such exclusive monopoly rights are awarded for various public policy reasons, such as ensuring security of supply, providing a basic service to the whole population or avoiding the costs of duplicating an expensive distribution network. Such practices are common, notably for utilities (energy and water), postal services, telecommunications and, to some extent, in the broadcasting, transport (air and maritime), banking and insurance fields.

Under EU State aid rules, the payment for the provision of services of general economic interest does not constitute State aid where there is a degree of competition for the provision of the service, where the specific arrangements are part of a contract and where the compensation from the State is no more than what is actually needed to ensure the provision of the service[6]. Where these conditions are not present, the compensation is normally State aid, not least as an actual or potential effect on competition is presumed. Such cases then have to be reviewed by the regulator (the European Commission in the EU system and the AMCU in Ukraine) to examine the necessity, proportionality and justification of the compensation provided.

In regard to monopolies generally, it is a common mistake, in applying the EU State aid rules in a national setting, to consider that, if there is no competition on the national market, e.g.because of a monopoly supplier in the market of electricity supply, any State support to that monopoly does not involve State aid as, in the absence of national competition, the effect on competition criterion for State aid is not satisfied.

However,State support to a national legal monopoly may still affect trade and competition if there is potential competition for the monopoly rights, if the monopolist operates in other markets which are open to competition or where market entry by a foreign supplier should be permitted.

This conclusion was essentially reached by the European Courts in Case T-295/12:Germany v Commission[7]. The Decision concerned State payments toZweckverbandTierkörperbeseitigung(ZT) in Rheinland-Pfalz (a public law association for the disposal of dead animals in the Rhineland-Palatinate region of Germany). ZT was in the business of collecting and disposing of dead animals. The aim of the aid to ZT was to compensate them for the costs of a public service obligation. Germany imposed a public service obligation on ZT to maintain a reserve capacity to collect and render a higher than normal number of animal carcasses in the event of an outbreak of an epidemic. The European Commission examined the payments to ZT and found them to constitute incompatible State aid that had to be recovered by Germany from ZT.

One of the arguments presented by Germany in the case was that there was no effect on trade between EU Member States and no distortion of competition because ZT had a regional monopoly for the collection and disposal of animal carcasses.

The contrary view of the European Commission was that, although there were regional monopolies for the disposal of carcasses, the majority of responsible local authorities granted such monopoly rights after carrying out a public procurement procedure to select the provider. This fact indicated the existence of competition and a market. According to the Commission, the State aid strengthened the financial position of ZT over other potential bidders. To the extent that bidders from all Member States could participate in tenders, the State aid granted to ZT was also likely to hinder trade between Member States.

The Court agreed with the Commission and held that:

Aid granted to an undertaking operating in a monopolised market can affect trade whenever the recipient company is also active in markets where it is subject to competition”.

This means, therefore, that if Ukraine grants State support to a monopolist undertaking on the Ukrainian market and that company also exports to EU Member States – such State support might be incompatible State aid. For example, since 2010 DTEK (export company) has held a monopoly on electricity exports from Ukraine. But, when exporting, DTEK is officially not supplying electricity from its TPPs (thermal power plant)as it buys electricity from Energorynok (central administrative body responsible for financial transactions) and re-sells it. Energorynoksells electricity for Oblenergos (regional network operators) and for exporters at the same price – 0.62 UAH/kWh. In this structure of the energy “market”, DTEK  receives 0.15 UAH for each kWh of exported electricity.

From 28 March 2012 to 1 January 2015, DTEK was buying electricity from the State enterprise Energorynok at the same price as Oblenergos and re-selling it to certain central and eastern European countries (Hungary, Romania, Slovakia and Poland) at much higher prices through its Dutch-registered entities. Basically, they bought electricity at an average price (subsidized by hydro and nuclear) and re-sold it on the export markets at the coal-based plus interest price. Exceptionally favourable conditions existed for DTEK after 2012 due to the political influence of the owner of DTEK. However, since 1 January 2015, the price for exporters has been increased by adding subsidy certificates to the “wholesale price” in order to cover the additional costs arising from the imbalance caused by low prices for domestic electricity consumption in Ukraine. The amount of subsidy certificates is defined annually by the National Energy Regulation Commission(NERC). The same scheme operated before March 2012. As a result, electricity export prices have now increased, making DTEK less competitive as a supplier in the central and eastern European region.

Conclusions

While analysing or considering a State support measure to undertakings it is important for State aid providers, beneficiaries and Authorised body to know that even State support for monopolies may constitute State aid as there might be potential competition from the other Member States of the EU or on export markets.

In any such cases, this type of State aid is likely to be found to be illegal and will have to be recovered from the beneficiary undertaking (regardless of its monopoly position) after the Law on State Aid to Undertakings comes into force.

This is just one of the complex issues which arise in regard to the application of the State aid regulatory system in Ukraine from August 2017 under the Law on State aid to Undertakings. It is important that this type of situation is appreciated in advance.

Despite the type of complex situation examined here, theintroduction of State aid monitoring and control in Ukraine will bring some important benefits in the national setting. These include:

1) improving the effectiveness of public finance management through monitoring and control of public spending in the form of aid to undertakings;

2) helping the State to resist business interests pressing the Government or local authorities subsidise certain economic sectors or firms;

3) helping to avoid a subsidies race (within the EU and between EU and Ukraine, taking into account provisions of the Association Agreement), which would jeopardize free competition and trade within the Internal Market of the EU and within the Free Trade Area between the EU and Ukraine; and

4) ensuring transparency of State support measures and thereby contributing to reducing corruption.

[1] Law of Ukraine “On State Aid to Undertakings” № 1555-VII of 1 July 2014 Article 1.

[2] Treaty on the functioning of the European Union, Article 107.

[3] Ibid, Article 14.

[4] Case 30/59 Steenkolenmijnen v High Authority [1961] ECR 1

[5] Law of Ukraine “On State Aid to Undertakings” № 1555-VII of 1 July 2014, Article 6.

[6] Case C-280/00 Altmark Trans [2003] ECR I-7747

[7] Judgment of the General Court (Fifth Chamber) of 16 July 2014.Federal Republic of Germany v European Commission.Case T-295/12.

Author: Iana Roginska

The contents of this article are the sole responsibility of the Crown Agents and its Consortium partners and the opinions expressed in this article are not to be understood as in any way reflecting an official opinion of EUROPEAID, the European Union or any of its constituent or connected organisations.

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