Municipal enterprises in the energy sector: A case of Germany

This article explores how municipalities in Germany are dealing with the energy shortage since the outbreak of the war in Ukraine and outlines the legal framework of municipal economic activity. The war in Ukraine has disrupted supply chains across Europe and prompted sharp price increases, especially in the energy market. This has an impact on customers, the economy, and, most significantly, local governments.

According to the report of the German Association of Towns and Municipalities, local governments have been affected hard by the rising cost of energy procurement, resulting in the deterioration of the financial status of many local public enterprises. The municipal associations have since called on federal and state governments to support these municipal energy enterprises.

The place of local government in Germany’s federal system

Germany consists of 16 federal states. Statehood is divided between the federal government (“Bund”) and the state governments, with local governments being part of the administrative organisation at the state (lander) level. Therefore, local governments do not form an independent third tier of government but enjoy a constitutional guarantee of local self-government in Article 28 (2) sentence 1 of the German Basic Law (BL) ‘German Constitution’. Because of their partial legal autonomy, local governments are characterised as “indirect state administration”. They serve as self-governing units but also implement Bund and Länder legislation. The Basic Law assigns the majority of administrative competencies to the Länder, where local governments deliver most of the administrative tasks. Local governments also partly act as state authorities in certain cases (see Sommermann).

Legal framework of municipal economic activity

There is a long tradition of commercial activity by local governments in Germany. The Association of Municipal Enterprises ("Verband kommunaler Unternehmen", VKU), for example, has more than 1,500 member companies, which are primarily active in energy supply, water and wastewater management, waste management and city cleaning, as well as telecommunications. Together, they generated sales revenues of around 123 billion euros in 2020.

The Basic Law does not explicitly recognise public enterprises, nor does it prohibit their existence explicitly. The BL, however, in certain articles provides that public authorities can operate economically (Art. 87e (3), first sentence, 87f (2), first sentence BL). However, the state's entrepreneurial activity is to be regarded only as a mode of fulfilling state tasks, thus, for constitutional reasons, it must serve a public purpose, like any state activity. Therefore, economic activity solely for the purpose of generating profits is prohibited under constitutional law (see Burgi).

According to the Federal Constitutional Court (BVerfG) the provision of energy supply is one of the characteristic tasks of local governments related to services of general interest (BVerfG NJW 1990, 1783). Under the constitutional guarantee of local self-government in Article 28 (2) sentence 1 of the Basic Law, this is the responsibility of the municipality and is considered a matter of the local community. The right to local self-government also guarantees local governments autonomy in deciding on the internal organisation of their administration and thus also the decision to perform tasks by means of entrepreneurial activity. This right is limited by the local government laws, which are within the legislative competence of the federal states. As a result, the precise scope of this right varies from state to state.

According to the municipal codes of the federal states, three criteria must regularly be met in order for municipal economic activity to be permissible: the primary prerequisite for economic activity by municipalities is that it serves a public purpose, the economic activity must maintain an adequate relation to the municipality's capability and anticipated needs and that the purpose to be fulfilled by a municipal enterprise is not or cannot be fulfilled better and more economically by another (private) party (a detailed explanation of the constitutional requirements as well as the framework of municipal law can be found in the handbook Wurzel/Schraml/Gaß).

Several years ago, regulations were adopted by federal states to make it easier for municipalities to act in the energy sector, especially on a supra-local basis. Alongside these legal changes, technical and economic changes took place. The former centralised energy supply system, for example, is increasingly being replaced by decentralised structures due to the growing use of renewable energies and technical innovations. This can be attributed partially to the decisions to phase out nuclear power as well as to the adoption of measures aimed at climate protection. While municipal energy enterprises focused on the distribution of energy (operation of an energy supply network) for a long time, by now they are also active in the procurement and generation of primary energy sources as well as in the provision of numerous functionally related services (see Burgi, Friedländer et al).

Motivation for local governments to get involved in the energy sector

There are various reasons for municipalities to get involved in the energy sector. The main goal in many cases is to ensure that there is a sustainable and secure energy supply adapted to the local circumstances. This also offers economic benefits, especially for rural municipalities, where the necessary land for the establishment of renewable energies is available. Ultimately, if a municipality operates its own municipal utility it also means exercising and strengthening local self-government (On municipalities as part of the energy transition, see Müller).

Current challenges for municipal energy enterprises and outlook

The current situation in the energy market is causing major problems for energy suppliers, especially in the area of procurement. Energy is procured either on the energy stock exchange or by contracting supply agreements directly with the producer. The forward-looking and long-term procurement strategy of the municipal energy supply was able to keep the price adjustment for customers at a low level for a while. Nevertheless, municipal enterprises are affected by considerable additional costs when procuring energy. Furthermore, not only for municipal energy companies, but for all energy buyers, the more volatile the markets and the more unstable the prices, the higher the security deposits they have to provide in order to buy gas and electricity. These recent developments make it clear that Germany relies heavily on other countries to meet its energy needs. The share of energy imports in gross available energy was around 64 % in 2021. The share of imported natural gas, which is still the most important energy source for industries but also for private households, was 95%.

While the current aim is to ensure an affordable and secure energy supply, in the medium and long term the ambitious expansion of renewable energies is crucial not only for climate protection, but also to reduce external dependency with regard to energy supply, as described above. Municipalities and their municipal enterprises play a key role in this, as well as the active information and participation of local citizens to create acceptance. This makes it even more important that the federal and state governments provide the necessary support to enable municipalities to invest in the energy sector in the future.

By Lisa Hagen

Lisa Hagen is a Research Fellow at the Ludwig Maximilian University of Munich. Between February and March 2023, she conducted a secondment at the University of the Western Cape through the Local Government and the Changing Urban-Rural Interplay project which received funding from the European Union‘s Horizon 2020 research and innovation programme under grant agreement No 823961.