The NordLink Effect on Norwegian and German Electricity Price Convergence : A difference-in-difference approach

Abstract

This thesis studies NordLink, a subsea interconnector, and its effect on electricity price convergence between Norway and Germany. To measure market convergence, we use the spread, defined as the difference between electricity prices in two countries. We employ a difference-in-difference estimation using Belgian electricity prices to estimate the counterfactual trend for German prices to disentangle the causal NordLink effect. This analysis yields the main result of the thesis, which is that NordLink has, on average, reduced the spread by 1 2 . 3 per MWh since its introduction We further examine the drivers behind the flow of electricity in NordLink to uncover when and why prices converge. We argue that structural difference in the countries' energy mix is the primary driver determining the flow in NordLink. Germany's relatively rigid electricity production leads to a deficit during high-demand periods, which is well complimented by Norway's flexible hydropower production. This thesis also discusses how the merit order affects electricity prices and, therefore, must be considered when analysing market convergence. We demonstrate that the merit order can have a significant impact on the electricity price spread and should therefore be considered when analysing market convergence. Overlooking this externality could lead to an overestimation of the integration effects of interconnectors like NordLink.