Electricity that costs the same everywhere without any transmission bottlenecks. Producers and consumers operating without constraints, producing and using electricity as they like. Network operators ensuring that producers and consumers are connected to each other. It all sounds good in theory.
But such a power system would require a lossless and unrestricted flow of electricity from A to B. To achieve that, the German power grid would have to be one giant copper plate – one that ideally covered all of Europe. Despite the fact that this copper plate does not exist, the market design in the electricity sector is based on the illusion that it does. This tends to distort reality.
- Electricity does not cost the same everywhere in Germany: Different providers have different prices, and consumers pay for the expansion of the grid with network access charges. This leads to higher access charges in regions with rapidly-increasing generating capacity and relatively few residents compared to regions where generating capacity is not on the rise.
- There are transmission bottlenecks in Germany (and Europe): Using redispatch and feed-in management tools, the four German transmission system operators regularly control power plant utilization “on command” to keep the grid stable. In 2012, these measures amounted to 385 GWh in feed-in management and 2,566 GWh in redispatch. Customers pay for these measures in the network access charges on their electricity bills.
How have we reached a point where the market and the grid aren’t aligned? As part of the liberalization of the energy market, the idea of centrally-planned construction of large power plants near heavy users (industrial or conurbation areas) was abandoned in favor of unguided expansion. This system has been extremely successful with regard to creating power plant capacity. The energy transition’s rapid development toward decentralization would be hard to imagine if it weren’t for the fundamental right to non-discriminatory construction of renewable units as outlined in Section 17 of the Energy Industry Act. Particularly relevant for renewable energy plants are Section 5 of the Renewable Energy Sources Act of 2012 and Section 8 of the Renewable Energy Sources Act of 2014.
However, it is the very success of Section 17 of the Energy Management Act that causes the network to chronically limp along behind the power plants and consumers. On the one hand, network operators are legally obliged to allow nearly every plant to connect the grid. On the other hand, they have a duty to the public to provide electricity every second of the year. In order to fulfill both obligations while also making progress on the copper plate in Germany, network operators are forced to resort to the previously mentioned measures of redispatch and feed-in management. At the same time, regional supply and demand surpluses are intensified because there is no short-term technical solution available to absorb the high and often fluctuating supply. Additionally, there are only the smallest of market incentives to build the next gas power station or the next solar park near consumers in order to relieve some of the pressure on the system.
To illustrate the status quo, imagine a large chemical company that wants to create a system of chlorine electrolyzers for PVC production. The electrolyzers in our example have a load of around 20 MW. The company would consider a number of factors before selecting a site for its plant, such as connections to transport infrastructure, labor costs, or building costs.
However, much like the builder of a new wind or solar park, the company would not consider the following factor: the transmission problems created by the new 20-MW load in distribution and transmission networks, and the resulting costs. As previously mentioned, these costs would be included in the network access charges of other users in the distribution field and in the roll-over of dispatch charges for all paying network users. More importantly, there is no market incentive for the chemical company to place this increased load in a grid region that is better equipped to handle it.
What is the price zone model? How can the market design be adjusted to make transmission bottlenecks visible? How can the electricity system be relieved without interfering in it? As usual, it’s worth taking a look at Scandinavia. Sweden, for example, has been divided into four market areas (“bidding areas”). Within each, electricity prices vary according to the current situation on the grid. In practice, electricity prices in the four areas are usually identical, but they can vary on days of extreme network load. A vital part of this are input and output forecast reports sent by the electricity market participants to the distribution network operators the day before delivery. This is similar to the so-called timetable management in Germany’s current electricity market design. In Germany, if the forecasted input and output for the electricity network can’t be accommodated, the next step is to redispatch. For the same scenario in Sweden, the price is adjusted for the market area that triggers the overload. By adjusting the energy prices, stakeholders have an incentive to adjust their planned electricity production or consumption until the distribution problem is solved.
Here is a sample calculation: In bidding area A, electricity producers predict an input of 1,000 MW for the next day, but electricity consumers only predict an output of 800 MW. The distribution network operator can easily export 100 MW at an interconnection point from bidding area A to bidding area B. The remaining 100 MW cannot be transferred. Now the energy price in bidding area A sinks until – to put it in the simplest terms – either the producers in bidding area A forgo production of 100 MW at the new, lower price, or the consumers in bidding area A take the additional 100 MW at the lower price. In the opposite scenario, too little electricity is available in bidding area B and prices rise until more producers agree to generate more power at the higher price, or more energy consumers agree to use less power at the higher price than predicted.
Let’s assume the chemical company in our example decides to build its electrolyzers in Sweden. The question of which price zone would provide the plant with the cheapest electricity would suddenly play a role in its economic calculations. Since the price of electricity in bidding area A is lower than in bidding area B, there is more of a chance that the company would build its new plant in bidding area A. This also prevents the already-strained grid situation in bidding area B from becoming worse. The result is simple: Additional network expansion has been prevented. Or, to state it openly: While Germany is still discussing the fair distribution of network expansion costs, these are already being kept as low as possible in Sweden. And, when it’s time for new transmission lines in Sweden, the price zone model makes this easier to swallow for citizens as new lines directly lower the price – good for all grid users in the price zone affected.
As previously shown, a price zone model leads to fewer transmission bottlenecks due to regional pricing. Using such a bottleneck price creates many advantages in the medium term:
- Limited-time regional energy prices create incentives for sensible power plant use that factors in transmission bottlenecks.
- System interventions by overriding, non-market authorities would no longer be necessary or would be reduced.
- Regional markets for electricity emerge. For existing network bottlenecks, supply and demand are balanced at the regional level.
- The use of technology appropriate for local consumers would be more likely with regional electricity markets, creating incentives for innovation.
- Misallocations of large power consumer and/or power producers would be prevented – selecting locations for new players would factor in existing shortages and wouldn’t make them worse.
- The need for further efforts to expand the network would be reduced since not every peak load would need to be intercepted by the transmission network.
This model takes into account a simple notion: electricity is not always worth the same. Network bottlenecks clearly illustrate this difference in value, but this is concealed in Germany by maintaining the illusion of a nation-wide copper plate. However, the price zone model based on the Scandinavian example not only makes the difference in value clearly visible, it even puts a price on it.
What are the disadvantages of the price zone model? Opponents of the price zone model introduce a number of arguments that point to the difficulties in regional electricity markets:
- Regionalizing the electricity market inhibits competitiveness. Depending on the size of the defined market areas, there could be a concentration of large electricity producers and consumers. This is of concern because it could lead to collusive behavior by market participants. Since the energy prices in each market area are dependent on network hubs (“nodal pricing”), large market players could attempt to set the prices.
- While the transmission capacity of the energy network is taken into consideration, this could be at the expense of other transport networks. For example, if a new steel mill is constructed in the interior of the country because the price zone there is cheaper than on the coast, it means millions of tons of steel will need to be transported to the interior rather than having the mill near a coastal port in the first place. This might make economic sense, but a decision like this could lead to further infrastructure problems – the energy network might not need to be expanded, but possibly the road or rail network instead.
- In the price zone model, electricity doesn’t cost the same everywhere. This is not in line with the idea that electricity is an existential commodity in a society. In addition, the price of electricity in the price zone model varies depending on investment decisions of stakeholders and is therefore detrimental to long-term investment security.
- Introducing a price zone model would require enormous political will and administrative skill. Depending on where the price zones were divided, in the beginning some zones would have more expensive energy prices, while others would have cheaper energy prices than before. Far-reaching decisions such as this one are difficult to push through in a federal system.
Whether the advantages of the price zone model outweigh disadvantages given the background of the current modus vivendi in the German energy system is up to each reader to decide. To us, the interesting part about this broader take on the situation is the clearer recognition of certain homemade problems in the German electricity network. Who knows? Perhaps this will help dispel certain illusions.