The European Commission has warned that state intervention in the energy sector can severely distort the market leading to higher prices and a lack of competition.
The EU executive body has issued a guidance document to member states on how to design public intervention and how existing schemes - such as renewable energy subsidy programmes - can be reformed.
It acknowledges that state intervention is sometimes necessary to attain public policy objectives but says that schemes should be flexible and balanced.
"The ultimate aim of the market is to deliver secure and affordable energy for our citizens and business," said EU Energy Commissioner Günther Oettinger. "Public intervention must support these objectives. It needs to be cost-efficient and be adapted to changing circumstances."
The Commission's communication comes at a time of heightened debate in the EU over energy policy, and in particular, the role of renewable energy.
While increasing renewable energy capacity in EU member states is in line with the region's goals for reducing carbon emissions, there are concerns that renewables are pushing out conventional coal and gas-fired generating capacity as well as pushing up consumers' bills.
The Commission said in a statement that technological progress in the renewable energy sector means that investment costs have fallen and subsidy schemes should be reformed accordingly. It says, however, that retroactive changes to schemes must not be made because of the impact on investor confidence.
It has also highlighted the area of back-up capacity for renewable energy, which several member states are trying to encourage investment in.
Back-up capacity is required when renewable energy capacity cannot generate energy and can include energy storage technologies and flexible gas fired plant.
The Commission says that member states should analyse the cause of inadequate back up capacities before incentivising investment, and remove any market distortions that might prevent investment in the first place.
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