On the long-term efficiency of market splitting in Germany

Highlights: • Multi-period simulation of German market splitting under imperfect information. • Market splitting strongly affects day-ahead prices, expansion plans, grid congestion. • Optimal zonal configuration for 2020 may become outdated after 2025. • Policymakers and regulators should regularly re-assess bidding zone configurations. In Europe, the ongoing renewable expansion and delays in the planned grid extension have intensified the discussion about an adequate electricity market design. Against this background, we jointly apply an agent-based electricity market model and an optimal power flow model to investigate the long-term impacts of splitting the German market area into two price zones. Our approach allows capturing long-term investment and short-term market behavior under imperfect information. We find strong impacts of a German market splitting on electricity prices, expansion planning of generators and required congestion management. While the congestion volumes decrease significantly under a market split in the short term, the optimal zonal configuration for 2020 becomes outdated over time due to dynamic effects like grid extension, renewable expansion and new power plant investments. Policymakers and regulators should therefore regularly re-assess bidding zone configurations. Yet, this stands in contrast to the major objective of price zones to create stable locational investment incentives.