Renewable Energy and Market Power in the Italian Electricity Market

Abstract

The Italian electricity market has been characterized by a remarkable increase of renewable energy source (RES) supply since 2010, which has determined relevant structural changes in the electric system. Noticeably, during favorable weather conditions, such as sunny or windy hours, increasing supply of RES generation exerts a downward pressure to the formation of the equilibrium price in the market and at the same time forces an increase in line congestion. The aim of this paper is to investigate whether such RES increase has affected the exercise of market power in the Italian Power Exchange (IPEX), explicitly considering transmission line congestion. We employ our approach to construct the residual demand curve and to disentangle the measure of the unilateral market power from the congestion rent. We compute the zonal Lerner index during the period 2009 to 2013 for the main generators in the Italian day-ahead market and we analyze the correlation among market power, congestion and RES supply. In particular, we investigate whether RES development has affected congestion and firm's strategic behavior, empirically testing whether structural changes have occurred in market power or in congestion rent. Our results show that the exercise of market power has been considerably weakened during peak hours by the massive competition of RES, but it has been surprisingly reinforced in specific off-peak hours, in the absence of solar RES and in specific zones, where congestion yields market splitting. These findings support pro-competitive market regulation and reform strategies, and shed light on the impact of RES and congestion on market outcomes.