Inefficient arbitrage in inter-regional electricity transmission

Abstract

This paper analyzes the efficiency of an explicit ex ante auction for network access to facilitating trade between two separate, but linked, electricity wholesale markets. It is generally assumed that greater regional interconnection will mitigate the exercise of local market power by dominant generators, but we show analytically that when a dominant player has access to a more competitive neighboring market, and is also the lowest cost producer, the exercise of market power becomes attractive and can have negative consumer welfare implications. For an empirical analysis, we use a unique data set of daily company-level flow nominations on the Anglo-French Interconnector (IFA). This provides a clear case study, “free of loop flows” (with the IFA being the only link between the UK and France). We are able to identify evident inefficiencies in the market behavior, for which several explanations, including market power, may contribute.