MDB & Energy Project: Country Studies: Hungary

3.2 Hungary

3.2.1 Energy Policy

The current state of Hungary is a good illustration of the difficulties facing transitional economies. The long process of transforming the social-economic system involves a high degree of uncertainty, and changes are as likely to take a positive as a negative direction in a number of areas.

Hungary has scarce mineral resources, so more than half of her primary energy demands have had to be supplied by imports. Energy policy makers have therefore had to concentrate primarily on ensuring a safe energy supply. This was fairly easy in COMECOM. Natural gas and crude oil came smoothly through the "Friendship", "Fraternity" and "Adria" pipelines, and Hungary was also spared the impacts of oil crises. While local resources were explored and exploited, they played a relatively minor role in overall resource allocation. One exception to this is coal mining, which until recently played a major role in employment policy. Therefore, the recent sudden abandonment of mining has proven extremely difficult economically and socially.

As the recent political and economic changes came, Hungarian energy policy shifted towards the free market. Hungary was the first country in the region to start the long process of creating the legislative and institutional background for privatising its energy industry. In the spring 1994, the Parliament passed bills regulating the gas and electricity industries, and the Hungarian Energy Office was established accordingly.

Hungary's electricity privatisation legislation generally followed the British model, albeit in a completely different social and economic environment. At the same time, there were some crucial differences between the Hungarian and the British approaches. One of the most important differences between the two systems is how access to the grid is managed. While in Britain, distribution utilities have free access to the supply grid and are allowed to sell electricity all over the country, in Hungary, regional electricity distributors control their own territory. This results in the maintenance of regional distribution monopolies. The second major difference is that under British privatisation, the new owners of the energy utilities were at least initially British; in Hungary, they are foreign investors.

Generally speaking, the electricity industry in Hungary has been vertically segmented. That is, production, transmission and distribution activities became separated, with the aim of making the electricity sector transparent. The sole exception to this is the Paks Nuclear Power Plant, which alone provides 43% of Hungarian electricity production. This plant is still a part of the Hungarian Electricity Works (MVM Rt.) and forms one economic unit with the high voltage grid. Currently, the installed capacity for electricity production in Hungary is 7200 MW.

The gas industry was segmented into regional distribution companies and the rest (exploration, importing, storage, transmission and trade) remained with the Hungarian Oil and Gas Company (MOL Rt.), which is one of the biggest companies in Central Europe. MOL Rt. controls the Hungarian transmission capacities (pipes), although other companies are also allowed to import oil and gas into the country, since there is relatively little to export.

In late 1996, a new nuclear law was accepted by the Hungarian Parliament. Essentially, it makes possible the privatisation of the already existing nuclear power plant in Hungary and allows private entities to build new nuclear facilities in Hungary. Moreover, the law establishes a nuclear fund for long term waste problems and decommissioning.

Unfortunately, this nuclear fund is unfortunately insufficiently regulated. There is no regulation regarding the timing of the money-flow, and there are no figures for the total needed funds at the end of the nuclear power plant's lifetime. The management of the fund is similar to that of other state funds which are subject to the annual state budget. Considering these problems, it is doubtful whether the fund will fulfil its mandate.

The government is currently planning to start debate on a district heating bill, although this has been an issue for years. Since the electricity bill does not clearly regulate the cogeneration plants which currently operate throughout Hungary as district heating plants, the short- and long- term economic situation of these plants is extremely insecure. The lack of a clear regulatory scheme means that these plants sell electricity on a day-to-day and rather uncertain basis.

To date, the majority of the shares in gas and electricity distribution utilities have been sold to foreign companies (including Electricite de France, Bayernwerk, and RWE.) The generation capacity is only partly sold, as many of the power plants are very aged (reaching the end of their useful life).

The only parts of the electricity industry in which the state still holds majority ownership are the high voltage grid, three coal- fired power plants in the western part of the country, and the Paks Nuclear Power Plant Company. The gas industry is almost fully privatised. The majority of shares in the gas distribution companies are owned by German, French and Italian utilities. MOL Rt. has been privatised only to financial investors on the stock exchange, in order to avoid the unbalanced market which would have been created, had this huge company been sold to one investor.

Official Hungarian energy policy ostensibly favours energy efficiency, but at the same time, 4000 MW of new capacity has been planned to "replace" 3000 MW of aged capacity by the year 2010. This does not reflect least-cost planning requirements. Officials are ready to confess that this is just an "exception" now, because they have to hurry to secure capacity for the near future. 1996 was the first year since 1987 in which energy consumption did not decrease, so this could be a turning point, providing a good argument for decision makers to point out the correlation between economic development and energy demand.

New legislation on the public participation process is under development in Hungary. This will have an effect on new power plant construction and other energy-related projects as well. This is currently an area of very weak regulation, as it does not provide for public involvement in environmental decision-making, but rather only informs the public about the possible effects of decisions regarding proposed projects and their environmental impacts.

3.2.2 Energy Efficiency and Renewable Sources of Energy

In late 1995, the Government approved the Energy Saving Action Program (ESAP).⁽⁶⁵⁾ This document is based on a long study, prepared by the Ministry of Industry and Trade under the same title in 1993. The ESAP represented an official acknowledgement that by using energy more efficiently, potentially 25-30 percent of energy can be saved, and energy sector energy efficiency can be increased, by efficiency improvements to power plants, reduction of grid capacity loss, and related energy conservation measures.

As heavy industry in Hungary almost totally collapsed, overall industrial output became statistically more efficient than it had been. In other words, Hungarian energy intensity has actually increased. At the same time, the share of residential and public consumption has been increasing. As western examples show, these sectors, rather than the industrial sector, will be the most important energy users in the near future. It is likely that most industries will take the necessary energy efficiency measures, but huge energy saving potentials still remain in the agricultural, public and residential sectors.

According to the government-approved ESAP, "If the necessary conditions are created, the current 2,5-3 percent proportion of renewable energy resources can be increased to 10%." There is a strong potential for the use of thermal solar energy in public and residential buildings, as well as for the use of passive solar techniques. There is also a huge potential for the use of biomass and geothermal energy sources. Wind in Hungary is not strong, regular or frequent enough to use it for mass electricity generation, but small-scale wind power could be used locally in some places. There are also possibilities for small hydro projects in certain areas. Taking advantage of all of these potentials could result in a higher share of total renewable energy consumption for Hungary, but unfortunately, no study has yet been carried out to prove this.

In December 1995, the government accepted a short- term action plan (the ESAP) as a reassurance, and gave deadlines for implementation all of the plan's steps. These included energy conservation measures such as energy labelling of large household appliances, and implementation of new standards for residential buildings. Most of the deadlines for implementation of the plan have not in fact been met and have been delayed until well past their original target dates.

Despite legal authorisation, the Government has not appeared keen to develop the energy efficiency potentials described in the approved ESAP, which regards least-cost planning (LCP), integrated resource planning (IRP) and demand side management (DSM) as key elements. The Plan will remain just another report on the shelf unless an appropriate financial environment is created for its implementation, and detailed guidelines are formulated for new owners of the reorganised electricity system. A proposal by the Energy Klub intends to start discussions on introducing IRP in Hungary.⁽⁶⁶⁾ This proposal describes an integrated resource planning approach that takes general and region-specific disincentives to energy efficiency into account, and effectively helps to implement energy efficiency and environment- friendly energy policy as a whole.

Adopting IRP in Hungary is likely to create several problems, although this should be by no means be considered an excuse for the responsible organisation, the Hungarian Energy Office, not to develop a useful proposal. The proposal is all the more urgent, since devising a power plant building strategy based on least cost planning is required by law. As is mentioned above, the government has already committed itself to build three to four thousand MW of capacity in the next decade.

3.2.3 Previous Lending Activities

The International Bank for Reconstruction and Development (IBRD) started to work in Hungary in the field of energy in the 1980's. The early credit lines and loans were connected to energy rationalisation through the Hungarian National Bank and later on, through the Hungarian Electricity Works. These early credit lines, which were supposed to support energy saving and efficiency investment, were in fact used primarily for importing the necessary materials for factories which were short of hard currency under the socialist regime.

After the political changes and the start of liberalisation, these companies could manage to secure their needs without such loans. At this point, Hungarian companies began to find World Bank loans relatively expensive when compared with the offers of the new commercial banks, and therefore IBRD loans became less attractive, and to an extent unnecessary. This is why the last World Bank credit lines were not disbursed in the early 1990's.

According to one official from the Hungarian Electricity Works (MVM Rt.) one of the reasons why the IBRD wanted to have projects with the MVM Rt. in the middle of the 80's was to gain more information on the Eastern European electricity industry as a whole, and Hungary was a good place to get a good overview of it. Therefore, the Hungarian Government and the MVM Rt. were convinced by World Bank officials as to the importance of these projects.

Eventually, the involved parties realised that these huge projects were not economical, so the funds which were left over were put into a smaller power station investment in Kelenfold. There were also some additional positive (but unexpected) "externalities" of these projects. In particular, the management of the MVM Rt. have had the opportunity to travel to the West, and their knowledge of progressive energy management has been broadened through their exposure to different types of electricity structures.

3.2.4 MDB Lending in Hungary

3.2.4.1 The World Bank Group

The International Bank for Reconstruction and Development

The IBRD has approved four energy loans since 1989 and started the preparation of the fifth one in 1997.

Energy Sector Loan This sectoral loan for energy sector development is an energy saving project for 10 million USD.⁽⁶⁷⁾ The money was to be disbursed through the Hungarian National Bank, but 85% of the loan remained unused, so it was recently cancelled.

Gas Sector Loan The second loan was given to the gas industry (MOL Rt.) Energy and Development⁽⁶⁸⁾ for gas grid development in Hungary totalling 100 million USD. The project is still under implementation.

Hungarian Electricity Works The third is a complex project totalling 100 million USD titled Energy and Environment⁽⁶⁹⁾ at the Hungarian Electricity Works. 40 million USD have been assigned for a communication and information system development within the Hungarian Electricity Works and the National Grid system. This is still under development. Another 40 million USD were allocated to finish an 80 MW gas fired combined cycle power plant (Dunamenti G-II.). The rest of the money will be used for educational purposes for the management and other employees of the Hungarian Electricity Works (MVM Rt.), developing an environmental plan for the company and emission-imission monitoring systems in the heavy polluted part of the country.

Since these projects are not expected to exceed four million USD, the MVM Rt's intention is to use the rest (around 16 million USD) for grid efficiency and development. According to information from an interview with one of the investment directors at the MVM Rt., they were quite successful in the tendering process and were able to negotiate for a lower price, which is why so much money was left over.

Since the Hungarian grid has connected to the Western European Electricity Network (UCPTE), several requirements have had to be fulfilled in a relatively short time. These include requirements that the system keep the electric frequency within a narrower range, and that the Hungarian grid be cut off from the Ukrainian and other less reliable networks.

Another requirement is that 440 MW be kept in reserve as secondary capacity. This is equivalent to the size of the biggest unit in the Hungarian electricity system, or one reactor at the Paks nuclear power station. The World Bank is therefore currently financing two small gas turbines, which amounts to half of the required secondary reserve; the other half will be imported if it is needed.

Quick Start Gas Turbine The loan for these gas turbines was approved and signed in July 1997.⁽⁷⁰⁾ The Hungarian government had intended to involve PHARE in this project (5,8 million USD). The two organisations have different tendering procedures and requirements for the contractors. After long negotiations, the MVM Rt. decided not to use this money, as it could have slowed down the whole process, meaning that the project could not be started before the autumn of 1997. The IBRD's share of the loan totals 60m USD.

Biomass Project The latest project in the pipeline from the IBRD is a feasibility study for three cities of the western part of Hungary on the potential of biomass. This Renewable Energy and Regional Development Program has a budget of 1,2m USD. The project is financed by several governments, including those of Switzerland, Austria, Japan, Germany and Denmark. It is led and co-ordinated by Helmut Schreiber of the World Bank's staff. If these pilot projects are successful, proving the feasibility of the plan, then the WB will be willing to put some money into pilot biomass projects in Hungary in the short term and to do the same for other cities. This support will come with a relatively large contribution from the GEF (Global Environmental Facility), which would improve the project's financial viability.

However, if the result of this rather high profile World Bank project is negative, meaning that is not feasible or is financially impracticable, this could set a dangerous precedent and create a long term backlash on renewables in Hungary. There is a danger already that the sponsors want to see relatively big projects which according to some experts, would not be suitable for the circumstances.

It is also worth noting that the Energia Klub and other NGOs are involved (at least ostensibly) in the project as a result of the new World Bank policy on public involvement. Unfortunately, as of early 1998 the World Bank and the contracted companies have failed to make real public involvement and participation happen, although the project theoretically began in March 1997.

The International Finance Corporation (IFC)

Hungary Energy Efficiency Guarantee Fund At the end of May, the International Finance Corporation signed a contract with UNIC Bank, and the door was opened for the Energy Efficiency Guarantee Fund in Hungary. This is one of three future sources from which private companies can have guarantees for energy efficiency projects which would not be possible without this type of support.⁽⁷¹⁾

The Energy Efficiency Guarantee Fund is financed by the GEF and provides only for leasing contracts. An important new aspect of this project is that the IFC establishes an Advisory Board which includes some NGO representatives in addition to officials from the related government ministries. This body is used to solicit new ideas. Even more importantly, it acts as an advertising channel for the fund throughout the country. The Advisory Board does not have a veto right or a strong influence on decisions. Still, the IFC understands that working with the Advisory Board can significantly improve a project's chances success.

3.2.4.2 The European Bank For Reconstruction and Development

The EBRD has approved three energy- related projects in Hungary to date.

MOL Zsana Gas Storage This project is aimed at assisting the Hungarian Gas and Oil Company to establish greater gas storage capacity in Zsana. The total project cost was 83,9 million USD, and the EBRD has financed practically one third of this amount (24,7 million USD).

Prometheus ESCO Financing This second loan was prepared in 1995 to strengthen the ESCO (energy service company). The contract was for about five million USD, and 80% of this amount has already been disbursed. The project is therefore going as planned to date, and Prometheus is one of the success stories of the EBRD's energy efficiency unit to date. They are planning to sign a new contract with Prometheus for the next couple of years. The owner of Prometheus is a French company, General de Chauffe.

General Purpose Credit Line An energy efficiency credit line project (37,8 million USD) has been approved, but some of its conditions remain unclear, and the agreement with the selected bank has still not been signed. The EBRD will open a credit line in a Hungarian commercial bank, Budapest Bank Ltd. exclusively for energy efficiency financing. This credit line is connected to PHARE, which is planning to open an energy efficiency revolving fund. The revolving fund can only be used together with IFI money, such as from the EIB and the EBRD, as a condition to be able to provide longer term financing facilities.

Because of PHARE's contribution, the interest rate of the package will be around 16-17%, making it "softer" than current Hungarian market rates. Originally, an amount of 6,3 million USD (5 million ECU) was discussed; this was raised to 9,5 million USD (7.5 million ECU) to be shared by three banks. Many uncertainties still remain regarding connections between the banks, the matching funds and the conditions of the whole EBRD-PHARE project. For example, it is not clear which organisation will be responsible for the technical parameters of the various projects. But since both the EBRD and the PHARE handle the project secretly, it is nearly impossible to get any information about it.

3.2.4.3 The European Investment Bank

The EIB has had five energy- related loans in Hungary. The EIB provides funding for energy efficiency projects only through global loans, as there are no other types of energy-efficiency related programmes supported by the Bank. It is not possible to tell the number of the projects or the total amount spent on energy efficiency through global loans, since there is no information available about these loans which also includes environmental and other infrastructure-related projects.

Global loans These multi-sectoral loans can be used for industry, tourism, energy efficiency and environment-related investments. The total fund for Hungary was 32 million USD in 1990, and 100 million USD in 1991. As the money goes to commercial banks, it is very hard to follow it. Moreover, energy efficiency is only one of four possible fields to which the money can go. However, it is safe to say that there is a fairly low chance that it has gone to energy efficiency projects.

Hungarian Electricity Enterprise I and II. In 1990 and 1993, the EIB financed grid-connected as well and more complex projects in the Hungarian Electricity Works with loans of 19 million USD and 25 million USD, respectively. This was for grid rehabilitation and for feasibility studies on grid connection to the Western European system.

Kelenfold Thermal Power Station Rehabilitation In 1991, another loan was initiated for rehabilitation at the Kelenfold Thermal Power Station. (44 mil. USD)

Gas Turbine Plant Financing of a new gas turbine power plant on the site of a former power plant at Lörinci, 1997. (43 mil. USD)

3.2.4.4 Summary

In conclusion, although international financing institutions (IFIs) have supported a number of initiatives on energy efficiency in Hungary, the amount allocated by the IFIs for generating capacity or other types of supply side projects is still much greater than that allocated for sustainable energy. We have also observed that even when they are supporting environmental friendly projects, the IFIs have shown a lack of transparency in their energy related activities and operations.