June 23, 2024
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Region: Green transition in Western Balkans

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Dependence on coal, outdated energy systems, and an overall lack of ambition are hampering the Western Balkans’ green transition. More support and assistance from the EU and international financial institutions will be essential for the region to achieve its climate goals, Carnegie Europe reports.

“We commit to work towards the 2050 target of a carbon-neutral continent together with the EU through mainstreaming a strict climate policy and reforming [the] energy and transport sectors.” This pledge was made by the leaders of the six Western Balkan countries—Albania, Bosnia and Herzegovina, Kosovo, Montenegro, North Macedonia, and Serbia—at a summit in Sofia, Bulgaria, in October 2020. It came as no surprise. Aspiring to join the EU, the region’s candidate countries have since agreed to become part of union-wide efforts to combat climate change through measures such as implementing carbon pricing, phasing out coal and turning to renewables in electricity production, expanding green infrastructure, and overhauling regulations.

In principle, signing on to the EU’s green agenda should be a win-win choice for the Western Balkans. Beyond converging with Brussels in a strategic policy area, the region could improve its energy security by tapping into indigenous solar, wind, and geothermal energy resources—in addition to existing hydropower capacity. This reorientation could yield benefits in terms of economic growth as green foreign direct investment (FDI) flows into the region, transforming sectors such as energy, manufacturing, and transportation. The Western Balkans can draw on nearby examples, such as battery making, which is booming in Hungary and Poland with the help of international investors. In an ideal world, the region would become sustainable in its energy consumption, energy independent, and more integrated as a regional marketplace as well as with the EU.

Unfortunately, the reality is much more sombre. By and large, Western Balkan energy systems remain outdated. They depend on legacy thermal power plants (TPPs) that burn lignite coal and are hampered by chronic mismanagement and underinvestment. For most countries in the region, coal accounts for 60–95 percent of electricity generation. Despite all the Western Balkan countries adopting nationally determined contributions to cut greenhouse gas emissions in line with the 2015 Paris Agreement on climate change, most have not set binding time lines for phasing out coal and transitioning to renewable energy sources, such as solar and wind. That is in contrast to neighboring Greece, which aims to make such a shift by 2028, or Romania, which is looking at 2030. Financial support is, by and large, lacking as well. The gap between the amount of funding the Western Balkans gets and the amount the region’s EU neighbors receive from Brussels to enable the green transition is widening.

The EU has developed a comprehensive policy to advance its green agenda in the Western Balkans, notably through the phasing out of coal and the shift to renewable energy. Yet, despite close alignment in regulatory terms, the region suffers from an implementation deficit because of major roadblocks. There have also been some achievements, however, and there are opportunities for greater convergence in terms of infrastructure development and closer cooperation between the region and the union.

EU ENERGY POLICY IN THE WESTERN BALKANS
Throughout the 2010s, one of the EU’s energy objectives in the Western Balkans—and in wider Eastern Europe—was to improve the security of supply. That choice was informed by Russia’s 2009 cutoff of natural gas deliveries via Ukraine and 2014 annexation of Crimea. The EU’s strategy aimed to prevent an outside power from retaining a monopoly over local markets and manipulating them to achieve its political goals.

To this day, the union pursues this approach through various means. One is by improving the interconnectivity between national gas grids and investing in alternative supply routes. That involves the development of new gas pipelines and liquefied natural gas (LNG) capacity to bring in gas from non-Russian sources, either from the Caspian Sea through the Southern Gas Corridor or from global LNG exporters.

The other, arguably more consequential, element of the EU’s energy strategy is to open up the gas and electricity sectors in Eastern Europe in accordance with the union’s acquis—the body of rights and obligations that make up EU law. Brussels’s general vision entails creating a level playing field for domestic and external suppliers and encouraging competition in line with the principles that underlie the EU single market. The union expects national horizontally and vertically integrated energy companies to be split into production, transmission, distribution, and retail units—again with a view to marketizing and liberalizing the sector. Much of the work focuses on electricity, rather than gas, because the region consumes minuscule volumes of gas in comparison with other parts of Europe and is less amenable to unbundling.

The focus on transplanting EU rules into candidate and potential candidate countries is at the root of the Energy Community, a Vienna-based organization that includes the Western Balkan countries, along with Georgia, Moldova, and Ukraine as contracting parties; the EU, represented by the European Commission; and Armenia, Norway, and Turkey as observers. Since the mid-2000s, the organization’s task has been to create a seamless market between the EU and its neighbors, underpinned by a set of common rules and institutions, including a ministerial council and a secretariat. As the organization is based on an international treaty, the commitments undertaken by the parties should, in principle, be legally binding. The ministerial council also provides a mechanism through which EU regulations and directives are adopted by the organization’s non-EU members. That setup is in contrast to other, open-ended forums, such as the Berlin Process, which brings together the Western Balkan six and the EU and deals in part with energy and climate issues.

Over time, the EU agenda expanded to include the fight against climate change. This objective has gained ground since the Paris Agreement was signed, with the EU increasingly shifting its attention from the security of hydrocarbon supplies to environmental sustainability. This effort has an internal dimension and an external one. The EU is keen to become a climate leader and export its newly crafted policies and rules beyond its borders, particularly to its neighbors. There are pragmatic reasons for the union to do so, not least its aim to avoid carbon leakage—that is, the entry into the EU market of carbon-intensive products from countries with preferential trade regimes, such as the Western Balkan six.

This is why the green transition has turned into one of the main areas of EU–Western Balkan interaction in the 2020s. The Berlin Process yielded the 2020 Sofia Declaration and the pledge to work toward the 2050 target of a carbon-neutral continent. External funding through the EU’s Instrument for Pre-accession Assistance and the Western Balkans Investment Framework, a partnership between the EU and international financial institutions, prioritizes green objectives. The Energy Community has set targets that, by 2030, 31 percent of gross final energy consumption should come from renewable sources, energy consumption should be capped, and greenhouse gas emissions should be cut by over 60 percent compared to 1990s levels and limited to 427.64 million metric tons of carbon dioxide equivalent. The latter objective, which is part of the EU-mandated national energy and climate plans, primarily focuses on the energy sector, although eventually transportation and possibly agriculture will come into the spotlight as well.

There are two direct benefits for the Western Balkans related to the EU’s green agenda. First, agenda presents the region with an opportunity to modernize its energy sector through FDI and EU assistance. Modernization strengthens the security of supply because of the abundance of renewable sources and, potentially, drives down electricity prices. The green transition also promises environmental gains, including cleaner air in big cities, where fine-particle pollution is a common phenomenon in periods of peak energy demand, such as the winter. Indeed, recent years have witnessed frequent civic protests against pollution in metropolitan centers such as Belgrade, Serbia, and Skopje, North Macedonia. On a broader scale, the EU’s green agenda enables the Western Balkans to contribute to joint efforts to fight climate change, a global threat that also creates regional risks like recurrent floods.

Second, there is a political rationale to the EU’s green agenda. With enlargement stalling, engagement on a sector-by-sector basis offers a way for both the EU—specifically, the institutions and those member states in favor of expansion—and candidate countries to drive integration forward through interim steps. The green transition is an area in which the EU and the Western Balkans could cooperate intensely while fostering integration at the regional level through initiatives promoted by the European Commission, such as the Berlin Process and the Common Regional Market.

AN IMPLEMENTATION DEFICIT
Despite formal alignment with the EU’s energy and climate goals and legislation, the Western Balkans is lagging far behind in terms of implementation. The two main sticking points are carbon pricing and the phasing out of coal.

CARBON PRICING
The Sofia Declaration spoke of alignment with the EU’s Emissions Trading System (ETS) and the introduction of other pricing instruments at the regional level to promote decarbonization. Thus far, only Montenegro, which sees itself as a local leader in adopting EU standards on energy and climate, has introduced a national cap-and-trade scheme. It covers the TPP near the city of Pljevlja; the aluminum smelter in the capital, Podgorica; and the steel mill in the city of Nikšić. However, the results have been mixed, not least because of Montenegro’s unambitious nationally determined contributions.

In 2021, North Macedonia’s electricity utility, ESM, introduced an internal carbon-pricing mechanism in line with a commitment under the Energy Community. The purpose is to establish a realistic estimate of the cost of electricity with an added carbon tax. However, ESM does not add the extra charge to its prices but rather uses it as an internal benchmark. The goal is to introduce carbon pricing by 2025. Currently, the national electricity companies in the region are discussing the establishment of a Western Balkans–wide emissions trading system. As long as carbon pricing is not in place, coal-generated electricity will remain relatively cheap.

PHASING OUT COAL
In principle, the Western Balkan countries have committed to phase out coal. Albania, Montenegro, and North Macedonia have joined the Powering Past Coal Alliance, launched by Canada at the 2017 UN Climate Change Conference (COP23) to accelerate the transition away from coal. North Macedonia has pledged to close its TPPs at Oslomej and Bitola by 2030, while Montenegro’s target is 2035. Serbia’s national coal and electricity company, EPS, has promised to shut down ten TPPs between 2025 and 2035 through the government’s Go Green Road strategy.

The Energy Community has been driving public policy, in line with the EU’s goals. It has singled out ten thermal units across the region for decommissioning by the end of 2023. This is a part of the obligations imposed by the EU’s large combustion plants directive. The Western Balkan countries are currently submitting their national energy and climate plans, which will include proposals for the region’s TPPs, to the organization’s secretariat. In addition, the organization’s treaty contains provisions to limit pollution from power plants. However, these provisions do not include the phasing out of coal or even a reduction of output, but rather the modernization of existing capacity through the installation of scrubber systems to reduce carbon dioxide and sulfur dioxide.

On the positive side, investment in new coal capacity has stopped. Bosnia and Herzegovina gave up plans to build a new unit at the TPP in the city of Tuzla. Montenegro abandoned a project to build a second unit at Pljevlja, and Kosovo called off Kosova e Re, a project of at least 450 megawatts. That is a stark contrast to the situation in the 2010s, when Western Balkan countries launched projects to modernize existing TPPs and build new ones.

However, there is no guarantee that the region will honor its phaseout commitments on legacy power plants. No TPP has been closed so far, despite the Energy Community’s obligations. In fact, in 2021, the organization initiated legal cases against Bosnia and Herzegovina, Kosovo, North Macedonia, and Serbia for breaching pollution limits. In December of that year, North Macedonia had to restart the TPP near the town of Negotino to meet higher demand. Most energy strategies in the region assume that TPPs will remain in place, switching from coal to natural gas or even to waste or biomass. The North Macedonian authorities and ESM, for instance, plan to shut the coal-fired unit 1 of the TPP near Bitola and replace it with a 250-megawatt gas-fired cogeneration unit in 2024.

OBSTACLES TO DECARBONIZATION
The fact remains that the green transition in the Western Balkans faces serious obstacles. Two stand out in particular: the region’s overwhelming dependence on coal and, relatedly, the structure of the energy sector and the politics of energy more broadly. The continuing war in Ukraine has added to the difficult situation created by these challenges.

COAL IS KING
Coal is the backbone of the energy systems in the region. Kosovo, Serbia, and Bosnia and Herzegovina are among the world’s top ten countries in terms of the share of coal in their electricity production, at 95 percent, 67 percent, and 65 percent, respectively. North Macedonia (51 percent) and Montenegro (41 percent) have relatively more balanced energy mixes, while Albania uses no coal in its domestic electricity generation (see table 1). In 2017, the 18 gigawatts of installed electrical capacity in the region was almost evenly divided between coal-fired TPPs and hydropower plants. At present, however, coal accounts for 70 percent of the electricity produced in the Western Balkans.


There are abundant coal deposits scattered around the region, with Kosovo claiming to have the fifth-largest stock in the world. In 2018, there were sixty-five mines producing 93 million metric tons of hard coal and lignite, corresponding to one-fifth of all coal produced in the EU. Serbia’s proven reserves equate to 192 times the country’s annual consumption. Bosnia and Herzegovina has 264 years’ worth of deposits, and Albania has a staggering 6,000 years’ worth.

According to the European Commission, a total of 138,000 jobs are linked to coal in the six Western Balkan countries and Ukraine: 89,500 in the mining industry and 48,500 in coal-based TPPs. Phasing out coal in line with EU policies could lead to the loss of 0.4 percent of all jobs in Montenegro, 0.5 percent in North Macedonia, 0.6 percent in Serbia, 1.3 percent in Bosnia and Herzegovina, and 1.4 percent in Kosovo. In the latter two cases, coal accounts for a higher percentage of employment than in coal-dependent Poland, where the share stands at 0.7 percent.

Of course, those employed in the coal sector—and their adult family members—are also voters. As elsewhere, politicians in the Western Balkans have an incentive not to implement radical phaseout plans that may cost them support at the ballot box. This is one of the reasons that despite the region’s apparent commitment to the EU’s targets, demand for coal in the Western Balkans persists.

However, the status quo creates costs as well. Coal is responsible for harmful emissions. Although the Western Balkans is at roughly the same level as the EU when it comes to carbon dioxide output per capita, the situation is worse when it comes to sulfur dioxide, nitrogen oxides, and dust pollution. In 2019, the sulfur dioxide emitted by the eighteen coal power plants in the Western Balkans was twice as high as that emitted by the 221 coal power plants in all EU member states combined. More recent data show that pollution in 2022 increased compared with 2021 for all three regulated pollutants: sulfur dioxide, dust, and nitrogen oxides. An estimated 11,400 people die prematurely every year from exposure to air pollution in Serbia; 5,900 in Bosnia and Herzegovina; 4,000 in Albania; 3,400 in North Macedonia; 2,800 in Kosovo; and 900 in Montenegro. Most those deaths were caused by cardiovascular diseases.Still, these costs have not generated sufficient political energy to put pressure on governments to implement more radical measures. Ultimately, sectoral interests have prevailed over more diffuse public concerns that have so far found little, if any, political representation.

THE POWER OF INCUMBENT COMPANIES
An additional challenge is the outdated structure of the energy sector in the Western Balkans, which exacerbates the problem of state capture. Large state-owned companies that control TPPs and mines provide rent opportunities to political parties and their clienteles. They also allow governments to control the price of electricity through the allocation of subsidies and regulations. This often results in sizable losses. Serbia’s EPS, which is the largest business entity in the country, recorded a loss of €418 million ($465 million) in 2022 and accrued €1.5 billion ($1.7 billion) of debt.

This ownership model has proved resilient because coal-generated electricity is competitive, as Western Balkan producers on the whole are not subject to carbon pricing. Indeed, this allows producers to export electricity to the EU, too. In 2021, Serbia exported $278 million worth of electricity. Of this volume, about $100 million went to other countries in the region, such as Montenegro and North Macedonia. The rest was bound for EU members, such as the Czech Republic and Hungary. The same year, Bosnia and Herzegovina sold electricity to Croatia, Italy, and Switzerland. In 2022, the country exported a further $450 million worth of electricity—or roughly 25 percent of the volume it generated.

In addition, the lack of transparency in the sector enables the involvement of external actors, such as China and Russia, which pursue agendas at odds with that of the EU. As part of its Belt and Road Initiative, China has extended preferential loans to expand and upgrade TPPs in Serbia and Republika Srpska, the Serb-dominated entity in Bosnia and Herzegovina. Russia’s gas diplomacy in the Western Balkans hinges on the preservation of the monopoly of vertically integrated national companies, such as Serbia’s Srbijagas. Commercial agreements with Chinese and Russian state-owned traders, construction companies, and banks have been closely nestled among the region’s political elites. As a result, the EU-driven agenda to liberalize the gas sector in the Western Balkans and, in the longer term, encourage an exit from fossil fuels is compromised.

THE IMPACT OF THE WAR IN UKRAINE
Russia’s war in Ukraine, particularly the spike in energy prices it caused in 2022, exacerbated the sense of anxiety in the region. The conflict made an already difficult situation worse; several Western Balkan countries had suffered shortages throughout 2021 because of a surge in demand after the lifting of coronavirus-related lockdowns and shortfalls in the capacity of coal mining and electricity production. In December 2021, Kosovo and Serbia suffered blackouts due to heavy snow and low temperatures. By August 2022, Kosovo had declared a state of emergency and began electricity rationing.

Instead of serving as a wake-up call and a catalyst for change, such exogenous shocks cemented the status quo. The reopening of North Macedonia’s Negotino TPP in late 2021 was symptomatic in that respect—although the station has now been closed. Similarly, unit 3 at the Tuzla TPP, which was slated for closure at the end of 2023, is now likely to be kept online—possibly by shifting from coal to biomass. Decisionmakers have a strong preference for ensuring price stability over enacting radical reforms that may alienate their constituents.

EXPANDING RENEWABLE ENERGY
Despite the obstacles to decarbonization, the green transition is far from a lost cause in the Western Balkans. The region has an inherent advantage with regard to renewable energy. That is clearly visible not only in Albania, which relies extensively on hydropower for electricity, but also in Montenegro, where over 40 percent of electricity is generated from that source.

There has been an explosion of hydropower ventures since the 2010s. By 2021, 490 new small hydroplants had been built in the Western Balkans, a nearly fivefold increase on 2009. The reason for the expansion was the system of preferential feed-in tariffs established by governments and legislators. In addition, politically connected companies have profited from support schemes that target the hydropower sector. And yet, although such ventures generate attractive rents for insiders, their output remains insignificant. What is more, hydropower often has a negative environmental impact as it degrades natural habitats and creates —such as flooding and degradation of agricultural land—for local communities.

Currently, the focus is shifting to solar and wind projects, which are more environmentally friendly, have been cost effective, and do not require incentives in the form of feed-in tariffs and subsidies. Serbia has awarded contracts for 400 megawatts of wind capacity and 11.6 megawatts of solar power. The country already meets up to 30 percent of its demand with hydro-generated electricity. In April 2021, Serbia adopted a new law on renewables, which overhauled state aid and limited the scope of feed-in tariffs. However, the changes in legislation encountered major opposition from publicly owned utilities, which cited the stability of the electricity grid as their main concern.

North Macedonia plans to have 46 percent of its electricity produced from renewable sources by 2025. In 2022, the public utility ESM put online a 10 megawatt solar farm on the site of a disused coal mine at Oslomej—a project funded by the EU’s Western Balkans Investment Framework and the European Bank for Reconstruction and Development. Kosovo’s 2022 energy strategy foresees the installation of some 1,600 megawatts of renewable capacity by 2031, which compares with the 900–1,200 megawatts of capacity currently provided by the country’s TPPs. Still, solar and wind power lag far behind, and nuclear power is nonexistent in the region, unless one counts the Western Balkans’ electricity imports from Bulgaria, Hungary, and Romania.

The shift to renewables also raises other issues, such as the provision of baseload power—the minimum amount of electricity to be supplied to the grid at any given time, especially during peak periods—which now depends on coal-fired TPPs. In a perverse way, the shift to renewables has strengthened the argument for extending the lives of coal-powered facilities.

To make headway on phasing in renewables, the Western Balkans should receive additional support from the EU. There is a considerable gap between the region and EU member states with regard to the volume of financial support they receive to encourage the green transition. This gap is growing even wider as grants and preferential loans from the EU’s Recovery and Resilience Facility kick in for countries such as Bulgaria, Croatia, Greece, and Romania. Close to 60 percent of the €6.27 billion ($6.99 billion) in grants that Bulgaria will receive through the facility is earmarked for climate objectives. Romania will channel 41 percent of the €29 billion ($32 billion) it gets from the EU in grants and loans into such priorities, Croatia 40 percent of its €6.3 billion ($7 billion), and Greece 37 percent of its €30 billion ($33 billion).

By contrast, in late 2022, the EU put forward only €1 billion ($1.1 billion) for the Western Balkans, half of which is to be spent on immediate measures to tackle the energy crisis caused by the war in Ukraine. This was on top of about €3.2 billion ($3.6 billion) dedicated to sustainable connectivity—that is, transportation and the digital economy as well as climate and energy issues. But it is fair to say that, overall, the region is behind the EU.

To move forward with renewables, the Western Balkans should tap into private investment, particularly in solar and wind energy. Such projects are already gaining momentum across the region. But to support them further, governments should invest in grid capacity and other infrastructure upgrades. Currently, officials and investors complain that they are facing constraints in that regard, including the lack of public funding, sluggish administrative procedures, and ineffective project implementation.

SCENARIOS FOR THE FUTURE
Looking ahead, the Western Balkans will come under pressure from the EU’s Carbon Border Adjustment Mechanism, a tariff on carbon-intensive imports into the union, which comes into effect in 2026. From then, the region could be paying over €500 million ($557 million) annually into the EU budget. That could destabilize the energy sector by pushing mismanaged and indebted utility companies down a precipice and feeding social and political tensions down the road. To deal with the challenge, Western Balkan countries will have to introduce carbon pricing to reduce costs.

To avoid such a negative scenario, the Western Balkans will be lobbying the EU for a transition period of several years, in which the countries of the region would implement the EU environmental and competition rules that apply to the electricity sector. This transition period would lead up to the introduction of an emissions trading scheme by 2030, which could also allow the region’s governments to raise around €2.8 billion ($3.1 billion) a year. This money could then be leveraged to promote various green energy projects.

However, this ideal Goldilocks scenario entails challenges. It would buy governments and electricity producers several years during which they would be able to profit from unfettered access to the EU market to export coal-generated electricity. Yet, compliance with EU rules would not be ensured. In other words, the Western Balkans would lose even more valuable time, and the gap with the EU would grow even bigger. In addition, successful transitions require sufficient governance capacity to steer significant policy change. Short-term disruptions to the energy market could occur as well, strengthening populist and anti-EU forces in the region. Last but not least, subsidies for green energy could go to crony capitalists, exacerbating chronic state capture.

To make the most of the opportunities associated with the EU-driven green transition, the Western Balkans should focus on its renewables potential, invest in infrastructure at both the national and the cross-border levels, join efforts to generate investment in energy and green technologies, and overhaul relevant laws and regulations. This will all require assistance from Brussels and international financial institutions. This is a daunting task, and there are formidable obstacles going forward. Yet, the potential benefits far outweigh the shorter-term costs.

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