The European Commission (EC) has recommended to the European Parliament that the existing system of subsidies to coal production in the EU should remain unchanged.

The "Commission Report on the Application of Council Regulation (EC) No 1407/2002 on State Aid to the Coal Industry", issued on 21 May, examines the application of Council Regulation No 1407/2002 ("the Coal Regulation") which has regulated state aid to coal production in the EU since coming into force in July 2002.

Overall the Commission found no need to amend the Coal Regulation, maintaining that there are not significant distortions caused by state aid, that world markets for coal were properly functioning, and that there is an a need to strengthen energy security in Europe.

Coal production within the EU became uncompetitive in the 1950s due to cheaper transportation costs for coal from third countries, increased labor costs in the EU, and the depletion of easily mined coal. Given the new reality, the European Community for Coal and Steel, and later the Commission, set up a system in which Member States could grant subsidies to the coal industry with the alleged intent of "an orderly restructuring and closure process."

In 2002, the Coal Regulation established the current system by which Member States are allowed to provide assistance to coal producers under certain conditions. These include that aid must not cause EU coal to be priced lower than similar third country coal, must not distort competition between buyers and users in the EU, and must not distort competition in the electricity market.

The system allows Member Sates to provide three types of aid: investment aid, current production aid and closure aid. Investment aid, which is currently used by the UK, Poland and Slovakia, allows these countries to provide up to 30% of the funding for a new investment, provided that the project will be competitive against third country producers.

Current production aid helps producers cover operating losses. It is used in Bulgaria, Germany, Hungary, Romania and Spain, where the EC report says coal mining would not survive without aid. Notably, the Commission adds that these countries have had limited success re-structuring their coal industry, with production costs only slightly reduced and in some cases increased.

The third category of aid is the only one that may help reduce subsidies to aid in the long run. Closure aid, as its name implies, is intended to help close unprofitable mines by softening the economic and social impacts of mine closures. Closure aid is only intended for operations that have agreed to close down before 31 December, 2007.*

According to the EC report, so far two mines have closed in France and Germany, while Spain has closed eight production units and has promised to close nine more mines before the end of the year.

Examining how the Coal Regulation has been applied, the EC concludes that state aid for coal has not significantly distorted the market in the EU, since most subsidized coal is consumed domestically, with only Poland and the Czech Republic exporting coal.

Looking at possible distortions to the electricity sector, the EC notes that several NGOs have argued that state aid to coal distorts the market for electricity production in favor of coal. However, a study carried out for the EC by Europe Economics, an independent consultant, claims that state aid to coal merely affects the source of coal used by electricity producers, not the fuel mix (i.e. share of coal in electricity production).

Coal accounts for 17 percent of energy consumption in the EU and 30 percent of electricity. The bulk of this coal is produced within the EU, with approximately one third being imported from third countries.

*The Commission has since extended closure aid for some countries until 2010 citing Member States' concern that reduction of production capacity may be limited without this extension. The EC also concluded that the "practical impact of any such modification for the period 2008 to 2010 would be very limited."

The text of the Commission's Report and the Coal Regulation are available on the EU's EUR-Lex website here and here, respectively.